
.. I ■ 



■ 












ECONOMICS 






BRIEFER COURSE 



BY 



HENRY ROGERS SEAGER 

Professor of Political Economy in Columbia University 




NEW YORK 

HENRY HOLT AND COMPANY 

1909 



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LIBRARY of CONGRESS 
Two Copies Received 

m ib 1909 

Copyright Sntry 
dLASS Oc **& No. 



COPYRIGHT, 1909, 
BY 

HENRY HOLT AND COMPANY 



THE QUINN & BODEN CO. PRESS 
RAHWAY, N. J. 






PREFACE 

Growing appreciation of the importance of economics 
is causing the subject to be introduced into a number of 
technical and professional schools. As a rule the course 
is shorter in such schools than the usual college course, 
and a briefer text-book is required. The following treatise 
has been prepared with special reference to this need. 
Although based on the author's larger Introduction to 
Economics, it is in essential respects an independent work. 
Not only are several topics there discussed entirely omitted, 
but the treatment of others is simplified as well as con- 
densed. In general the qualities chiefly aimed at in the 
first, or theoretical, half of the book have been clearness 
and brevity, and those sought in the second, or practical, 
half, adequacy and up-to-dateness. The treatise is thus 
intended primarily for teachers who wish to give only that 
amount of attention to economic theory that is essential 
to the intelligent discussion of practical economic prob- 
lems. Since this is the normal position of the busy man 
of affairs, it is possible that the book may be of interest 
to some readers outside the class-room. 

The bibliographical note at the end of Chapter I. and 
tHe references for collateral reading appended to all of 
the chapters except the last are intended for the guidance 
of general readers. Asterisks (*) are used to designate 
the titles which are especially recommended. 

Peterboro, New Hampshire, 
November 2, 1908. 



iii 



CONTENTS 



CHAPTER I 

PRELIMINARY SURVEY OF THE FIELD OF 
ECONOMICS 

PAGE 

1. Definition of Economics — 2. Relation of Economics to other 
Social Sciences — 3. The Motives to Business Activity — 4. Char- 
acteristics of the Business, or " Economic," Man — 5. Defini- 
tions of Common Terms — 6. Production and Consumption — 
7. Work and Pay — 8. Property and its Earnings — 9. The 
Methods of Economics — 10. Economic Laws — 11. Outline of 
Book and Conclusion — Bibliographical Note . . . .1 

CHAPTER II 

THE CONSUMPTION OF WEALTH 

12. Characteristics of Human Wants — 13. The Law of Diminish- 
ing Utility — 14. Present vs. Future Goods — 15. The Law of 
Demand — 16. The Law of Variety — 17. The Law of Harmony 
— 18. The Law of Least Social Cost — 19. Economical Consump- 
tion — 20. Are Expenditures for Luxuries Justifiable? — 21. Sav- 
ing vs. Spending — 22. Statistics of Consumption — 23. Two As- 
pects of Consumption 21 

CHAPTER III . 

VALUE AND PRICE 

24. How Values in Use are Determined — 25. The Relation be- 
tween Values and Costs — 26. Marginal Utility and Value in 
Industrial Society — 27. Marginal Cost and Value in Indus- 
trial Society — 28. Values in Use, Values in Exchange and 
Prices— 29. The Value of Money— 30. The Determination of 
Prices — 31. The Determination of Competitive Prices — 32. 
Market Prices and Normal Prices 38 



vl CONTENTS 

CHAPTER IV 
PRODUCTION: LAND AND NATURAL FORCES 

PAGE 

33. Definition of Production — 34. Nature and Man the Factors 
in Production — 35. The Productive Services of Land — 36. Dif- 
ferent Characteristics of Different Pieces of Land — 37. Dif- 
ferences in Expenses of Production due to Differences 
among Different Pieces of Land — 38. The Law of Diminish- 
ing Returns — 39. Differences between Different Pieces of 
Land due to Social Causes 60 

CHAPTER V 

PRODUCTION: LABOR AND CAPITAL 

40. Labor as a Factor in Production — 41. Qualities Determining 
the Productive Efficiency of Workers — 42. Capitalistic Pro- 
duction— 43. The Different Kinds of Capital— 44. The Law 
of Diminishing Returns for Labor and Capital — 45. Methods 
of Accumulating Capital — 46. Different Varieties of Capital 
Goods — 47. Capitalistic Production a Modern Phenomenon . 73 

CHAPTER VI 

PRODUCTION: CO-OPERATION AND BUSINESS 
ORGANIZATION 

48. The Importance of Co-operation of Workmen in Production 
— 4-9. Qualities Necessary to Effective Co-operation — 50. The 
Advantages of Co-operation — 51. The Disadvantages of Co- 
operation — 52. Illustrations of the Advantages of Co-opera- 
tion — 53. Business Organization and the Function of the En- 
trepreneur — 54. Different Forms of Business Organization — 
55. Advantages and Disadvantages of the Corporate Form of 
Organization — 56. The Advantages of Large-scale Produc- 
tion — 57. The Representative Firm 91 

CHAPTER VII 

PRODUCTION AND DISTRIBUTION 

58. The Nature of Distribution — 59, Connection between Prices 
and the Money Income to be Distributed — 60. Elements in the 



CONTENTS vn 

PAGE 

Expenses of Production— 61. The Wages of Management — 
62. The Normal Expenses of Production — 63. The Shares into 
which the Money Income is Divided 110 

CHAPTER VIII 

DISTRIBUTION: COMPETITIVE PROFITS 

64. The Causes of Competitive Profits— 65. (1) Profits due to 
Fluctuations in the Prices of Particular Commodities — 66. 
Speculation Tends to Steady Prices — 67. Profits due to Gen- 
eral Price Movements — 68. (2) Profits due to the Introduc- 
tion of Novelties — 69. (3) Profits due to Improvements in 
Methods of Production— 70. (4) Profits due to Variations in 
Climatic or other Natural Conditions — 71. (5) Profits due to 
the Exploitation of New Lands and Natural Resources — 
72. (6) Profits due to Modifications in the Rates of Remunera- 
tion of other Factors in Production — 73. Conclusion . . 123 

CHAPTER IX 

DISTRIBUTION* MONOPOLY PROFITS 

74. Monopoly Contrasted with Differential Advantages in Pro- 
duction — 75. A Classification of Monopolies — 76. Limitations 
on Monopolistic Control over Prices — 77. The Law of Monop- 
oly Price — 78. Methods of Concealing Monopoly Profits — 79. 
Current Misapprehensions in Regard to Monopolies — 80. The 
Influence of Monopoly Profits on other Shares in Distribu- 
tion 137 

CHAPTER X 

DISTRIBUTION: RENT 

81. Definition of Rent— 82. The Different Grades into which Land 
may be Divided — 83. Causes Determining the Amount of Rent 
— 84. The Rent of Mines and Sources of Water Power — 85. 
Complications in Connection with the Determination of Rent 
— 86. Rent and Interest on Capital Permanently Embodied in 
Land — 87. The Relation between the Rent of Land and its 
Price — 88. Summary of the Explanation of Rent . . . 151 



viii CONTENTS 

CHAPTER XI 
DISTRIBUTION: WAGES 

PAGE 

89. The Wages Question and What it Involves — 90. Differences in 
Wages are Explained like Differences in Rents — 91. Compli- 
cations in the Grading of Workmen — 92. The Explanation of 
Differences in Rates of Wages Generalized — 93. Influence of 
the Immobility of Labor on Wages — 94. Competition Tends 
to Equalize Efficiency-Wages, not Time-Wages — 95. Other 
Causes of Differences in Money Wages — 96. Influence of 
Heredity and Education in Perpetuating Differences in Ca- 
pacity — 97. Differences in Capacity Closely Connected with 
Differences in Standards of Living — 98. Inequalities in Educa- 
tional Opportunities must be Removed by Community Action 
— 99. Relation between Wages and other Shares in Distribu- 
tion 165 

CHAPTER XII 

DISTRIBUTION: INTEREST 

100. The Interest Problem and What it Involves— 101. Explana- 
tion of the Reasons for the Payment of Interest — 102. Service 
of the Replacement Fund in Giving Mobility to Capital Goods 
—103. Competition Tends to Bring Interest Rates to a Level — 
104. Reasons for the Persistence of Differences in Rates of 
Interest — 105. Other Causes of Differences in Rates of Inter- 
est — 106. Relation between Marginal Wages, Marginal Inter- 
est and the other Shares — 107. Causes Determining the Size of 
the Joint Share of Labor and Capital at the Margin of Pro- 
duction — 108. How Marginal Wages and Marginal Interest 
are Determined 184 

CHAPTER XIII 

VALUE AND DISTRIBUTION 

109. Restatement of the Theory of Distribution— 110. Caution 
against Unwarranted Inferences from the Theory of Distri- 
bution — 111. The Growth of Population in the Nineteenth Cen- 
tury — 112. Population Theories — 113. The Economic Check to 
the Growth of Population — 114. Influence of Standards of Liv- 



CONTENTS ix 

PAGE 

ing on the Growth of Population — 115. Statistics in Regard to 
the Growth of Wealth and Capital — 116. Influences Controlling 
the Growth of Capital— 117. The Ultimate Determinants of 
Distribution 202 



CHAPTER XIV 

MONEY AND THE MONETARY SYSTEM OF THE 
UNITED STATES 

118. The Nature and Functions of Money — 119. Prices and the 
Value of Money Vary Inversely — 120. Qualities of Good 
Money — 121. Coinage and the Printing of Paper Money — 122. 
Gresham's Law — 123. The Adoption of the Gold Standard — 
124. Monetary History of the United States — 125. Present 
Monetary System of the United States — 126. How the Parity 
in Value between Gold Coins and the other Kinds of Money is 
Maintained — 127. Defects in the Monetary System of the 
United States: Token Money — 128. Plans for Disposing of the 
Surplus Silver Dollars: Credit Money 223 

CHAPTER XV 

CREDIT AND BANKING 

129. The Nature of Credit— 130. Book Credit— 131. The Bank- 
ing Business — 132. The Check System — 133. Bank Deposits 
and Bank Loans — 134. How Banks Lend their Credit — 135. In- 
terest on Bank Loans — 136. Reasons for Differences in Rates 
of Interest — 137. History of the National Banking System — 
138. Defects in the System and Remedies — 139. Conclusion . 245 

CHAPTER XVI 

FOREIGN EXCHANGE AND SOME UNSETTLED 
MONETARY PROBLEMS 

140. The Nature of Foreign Exchange — 141. Sterling Exchange 
and the Gold Points— 142. The Rate of Sterling Exchange— 
143. Three-cornered Exchanges — 144. A Country's Gold Sup- 
ply Regulates Itself— 145. The Value of Gold and Prices— 146. 
The Demand for Gold or Money— 147. The Supply of Gold— 



CONTENTS 

PAGE 

148. How the Value of Money or Gold is Measured — 149. Price 
Statistics and Changes in the Value of Gold — 150. Interna- 
tional Bimetallism — 151. The Future of the Gold Standard — 
152. The Multiple Standard 268 



CHAPTER XVII 

THE TARIFF QUESTION 

153. Foreign and Domestic Trade Contrasted — 154. The Tariff 
Question: Protection vs. Free Trade — 155. Arguments in Fa- 
vor of Protection — 156. Protection in the United States since 
the Civil War— 157. The Tariff of 1897—158. Present Status 
of the Tariff Question in the United States— 159. The Future 
Tariff Policy of the United States 288 

CHAPTER XVIII 

THE LABOR MOVEMENT 

160. The Disadvantages of Wage-earners as Bargainers — 161. 
Nature of the Labor Movement — 162. The Development of 
Trade-Union Law in the United Kingdom — 163. The Law in 
Reference to Labor Organizations in the United States — 164. 
Collective Bargaining — 165. Strikes and Lockouts — 166. Plans 
for Avoiding Strikes — 167. Compulsory Arbitration — 168. Use 
of the Injunction in Connection with Strikes — 169. The In- 
fluence of Trade Unions on Wages — 170. Trade Unions are 
Sometimes Monopolies — 171. Educational Work of Trade 
Unions— 172. The Regulation of Trade Unions . . . .305 

CHAPTER XIX 

THE LEGAL REGULATION OF LABOR 

173. Reasons for the Legal Regulation of Labor — 174. The Con- 
stitutionality of Labor Laws in the United States — 175. Child- 
labor Laws in the United States — 176. Laws Regulating the 
Labor of Women — 177. Would a Universal Legal Eight-hour 
Day be Desirable?— 178. The Sweating Evil— 179. Remedies 
for the Sweating System — 180. The Regulation of Dangerous 
Trades — 181. Employers' Liability for Industrial Accidents — 
182. Conclusion 330 



CONTENTS xi 

CHAPTER XX 
LEGAL AND NATURAL MONOPOLIES 

PAGE 

183. Importance of the Monopoly Problem — 184. Public Legal 
Monopolies — 185. The Patent System of the United States — 
186. The System of Copyright — 187. Natural Monopolies in the 
United States — 188. Natural Monopolies of Situation: The 
Anthracite Coal Combination — 189. Natural Monopolies of 
Organization: Water, Gas and Electricity — 190. The Street- 
Railway Monopoly — 191. The Telephone Monopoly — 192. The 
Solution of the Municipal Monopoly Problem — 193. Methods 
of Regulating Municipal Monopolies 351 



CHAPTER XXI 

THE RAILROAD PROBLEM IN THE UNITED 
STATES 

194. National Monopolies of Organization — 195. Circumstances 
Making the Railroad Business Monopolistic — 196. Progress to- 
ward Concentration in the Railroad Business in the United 
States — 197. Discrimination in Railway Rates: Among Com- 
modities — 198. Discrimination among Persons — 199. Monopoly 
Profits from the Railroad Business in the United States — 200. 
The Interstate Commerce Act — 201. Amendments to the Inter- 
state Commerce Act — 202. Arguments for and against Na- 
tional Operation of Express, Telegraph and Long Distance 
Telephone Businesses— 203. Arguments for National Owner- 
ship and Operation of Railroads — 204. The Future of Rail- 
road Regulation in the United States 374 



CHAPTER XXII 

THE TRUST PROBLEM IN THE UNITED STATES 

205. Capitalistic Monopolies or Trusts in the United States — 206. 
Progress of the Trust Movement— 207. Reasons for the Trust 
Movement — 208. Financial Success of the Trusts — 209. Econo- 
mies Effected through the Trust Form of Organization— 210. 
Illegitimate Advantages of the Trusts — 211. The Tariff and 
the Trusts— 212. Other Evils Charged against the Trusts— 213. 



xii CONTENTS 

PAGE 

The Constitutional Obstacle to Legal Regulation of the Trusts 
— 214. Anti-Trust Legislation — 215. The Bureau of Corpora- 
tions — 216. Plans for Obtaining Legal Control over the Trusts 
—217. The Future of the Trusts 395 



CHAPTER XXIII 

PLANS OF ECONOMIC REFORM 

218. Four Plans of Economic Reform— 219. Profit-sharing— 220. 
Labor Copartnership or " Co-operation " — 221. Difficulties in 
the Way of Successful Labor Copartnership — 222. Land Na- 
tionalization— 223. The Present Land Problem— 224. The Sin- 
gle Tax— 225. Objections to the Single Tax— 226. Desirable 
Reforms in Present System of Land Ownership and Taxation 
— 227. The Meaning of Socialism — 228. Advantages Claimed 
for Socialism — 229. Objections to Socialism — 230. The Social- 
ism of Karl Marx — 231. Conclusions in regard to Socialism . 423 

CHAPTER XXIV 

ECONOMIC PROGRESS 

232. The Nature of Economic Progress — 233. Progress in Con- 
sumption and Production — 234. Progress in Distribution — 235. 
Economic Justification of Profits — 236. Rent and Interest — 
237. Inheritance Taxes as Means of Lessening Inequalities in 
Wealth — 238. Progress in the Future — 239. Probable Course 
of Wages, Interest and Rent in the Future — 240. Economic 
Progress and the Moral Elevation of the Race .... 451 



ECONOMICS 



ECONOMICS 



CHAPTER I 

PRELIMINARY SURVEY OF THE FIELD 
OF ECONOMICS 

i. Definition of Economics. — Economics, or political 
economy, is the social science which treats of that por- 
tion of human activity which is concerned with earning 
a living. It deals, on the one hand, with man's wants and, 
on the other, with the goods (i. e., the commodities and 
services) upon which the gratification of his wants de- 
pends. It analyzes wants, classifies goods with reference 
to them and considers all of the circumstances which 
affect the production and distribution, or sharing, of 
goods among the individuals who compose society. In dis- 
cussing production and distribution economists treat the 
same problems that engage the attention of business men, 
but from a social rather than an individual point of view. 
It is to emphasize this distinction that economics is styled 
a " social science." A definition easy to remember is that 
economics is the social science of business. 

2. Relation of Economics to Other Social Sciences. — 
Closely related to economics are the other social sciences — 
sociology, politics, law and history. By some writers so- 
ciology is made to include all of the social sciences, not ex- 
cepting economics. Others define it as the science which 
treats of the beginnings of society and of the first prin- 
ciples of social organization. Still a third group under- 
stands the term to include problems connected with soci- 



2 PRELIMINARY SURVEY OF THE FIELD 

ety's treatment of its dependent classes. Whichever of 
these definitions be accepted, the relation of sociology to 
economics need cause no confusion. The latter has to do 
primarily with contemporary conditions and with the rela- 
tions between independent, self-supporting individuals 
and families and the goods upon which their well-being 
depends. 

Politics treats of the political organization of society, 
and law is the aggregate of rules and regulations through 
which formal expression is given to the social will. Neither 
is likely to be mistaken for economics, although both in- 
fluence largely the business institutions and practices with 
which economics is concerned. The political organization 
determines what classes shall have a dominant influence in 
choosing the laws that are to be passed and enforced, and 
laws themselves establish standards to which all must con- 
form. The solution of most of the practical economic 
problems which are discussed in later sections of this book 
will be found to hinge upon the repeal of unwise laws or 
the enactment of wise ones. 

History, in the broadest sense, is the narrative of past 
events. To the economist, economic or industrial history, 
the narrative of past events touching relations between 
men and goods, is of special significance. Without some 
knowledge of economic history no clear understanding of 
contemporary economic phenomena is possible. This is 
because in the field of economic as of other social phe- 
nomena the present has grown out of the past and only 
in the light of the past are present practices and institu- 
tions comprehensible. 

3. The Motives to Business Activity. — In the defini- 
tion, " economics is the social science of business," the last 
word is used in its broadest sense. It denotes activity 
entered into, not primarily for its own sake, but for the 
sake of some indirect return. Business is thus, in a sense, 
" work " as distinguished from " play," but must not be 



MOTIVES TO BUSINESS ACTIVITY 3 

thought of as necessarily disagreeable. It includes 
activity, that is, pleasurable mental or physical exercise, 
as well as effort, that is, exercise which involves some ele- 
ment of discomfort or pain. The rational man tries to 
arrange his work so that it will involve as little effort as 
possible. 

The motives to business activity are too familiar to 
require extended analysis. Men are so constituted that 
their happiness, their existence even, depends upon their 
having command over certain material commodities and 
personal services. They must have food, shelter and cloth- 
ing in order to live. Such things satisfy their primary, 
physical wants. Next come the more complex wants which 
distinguish the civilized man from the savage. Men now 
desire tools, machines, conveniences for travel and social 
intercourse and countless other things which contribute to 
the comfort of life. The chief object of business activity 
is to create or obtain these material and immaterial con- 
ditions to well-being. Primitive men went about the task 
directly. They killed game for food, erected their own 
huts and made their own garments from the skins of ani- 
mals. Their civilized brothers have learned that business 
activity is more fruitful when it proceeds by roundabout 
and co-operative methods. They spend much of their time 
in fashioning tools, machines and other aids to production, 
and concentrate their attention on special tasks, relying 
on others to provide most of the things which they require. 
It is this indirectness of modern business activity which 
gives rise to many of the most important problems of 
economics. 

Other motives to business activity (besides the desire to 
obtain control over commodities and services as a means to 
gratifying wants) are interest in work for its own sake; 
desire for the social distinction which attaches to large 
command over commodities and services ; love of power, 
and desire to serve the community. The strength of these 



4 PRELIMINARY SURVEY OF THE FIELD 

supplementary motives varies with different men and in 
different occupations. The first is particularly prominent 
in connection with the work of artists, artisans and pro- 
fessional men, but it is by no means confined to such pur- 
suits. In fact it is not far from the truth to say that 
business success in nearly all occupations is in direct pro- 
portion to the interest the worker takes in his work for 
its own sake. Desire for social distinction and love of 
power have little influence on the attitude of the average 
man towards the working life, but in the minds of those 
who rise to the highest positions in the business world these 
become dominant motives. It is only by reference to them 
that the laborious days of America's hard-working mil- 
lionaires can be understood. Finally, the desire to render 
social service is already a strong motive with many per- 
sons and promises to become stronger as political and other 
opportunities to serve the community on terms that self- 
respecting men can accept are multiplied. There can be 
little doubt that the present trend of development in pro- 
gressive countries is towards the exaltation of these supple- 
mentary motives at the expense of what may be called the 
mere bread-and-butter attitude towards the working life. 
4. Characteristics of the Business, or " Economic," 
Man. — A first step in the study of business is a clear de- 
scription of the business man. As found to-day in the 
United States and other countries in the same stage of 
industrial development, he has four traits which show them- 
selves more or less clearly in all of his acts : 

(1) The business man pursues his own interest in his 
business dealings and assumes that others will do the same. 
This does not mean that he is steeped in selfishness, but 
simply that from his point of view " business is business," 
not play nor philanthropy, and that he prefers to keep his 
getting separate and distinct from his giving. 

(2) In judging of his own interest the business man 
thinks of himself not as an isolated individual, but as a 



CHARACTERISTICS OF BUSINESS MEN 5 

member of different social groups, of which the family is 
by far the most important. He works not for himself 
alone, but for his family, his church, his union, or club, 
and his country. In different relations and at different 
times he identifies his interest with the interests of these 
organizations. For his family the business man will sac- 
rifice as much or more than he will for himself alone. 

(3) He desires to be financially independent. His am- 
bition is to stand on his own feet, to make his own way and, 
when he accepts assistance, to give an adequate return 
for it. 

(4) He is controlled in his business dealings by the code 
of business morality that pertains to his class. As there is 
" honor even among thieves," so there are special standards 
that are accepted and lived up to by different business 
classes. These standards are not as high as v/ould be 
desirable, but they are higher than current criticisms of 
business morality might lead one to think^ To be main- 
tained, however, in communities where class barriers are 
constantly giving way, such standards have often to be 
reinforced by legal enactments # 

These four characteristics of the business, or economic, 
man are readily explained by reference to the evolutionary 
process which has brought industrial society to its present 
•stage of development. Self -interest as a dominant motive, 
for example, is the direct fruit of that struggle for exist- 
ence which is still in progress and which makes self-preser- 
vation the first law of nature to every organic species. In 
the case of men, religious and other influences have tem- 
pered self-seeking with consideration for others, but it still 
plays the chief role in shaping human conduct^ 

5. Definitions of Common Terms The material com- 
modities and personal services which gratify human wants 
are conveniently designated as goods, while the capacity 
or quality in goods which gratifies wants is called utility. 
As used in economics these terms are stripped of the moral 



6 PRELIMINARY SURVEY OF THE FIELD 

implication that attaches to them in ordinary speech. 
Thus anything that gratifies a want has utility and is 
a good, whether it be the whisky of the trader or the 
hymn-book of the missionary. 

Not all goods figure in business transactions. Such 
things as sunlight, air and water are usually free goods 
for which no one expects or receives a return. They are 
supplied by nature in such abundance that there is enough 
of them for all and to spare. In general it may be said 
that whenever the spontaneous supply of any good exceeds 
the desire for it, units of that good will be free. 

In contrast with free goods is that vastly larger class 
of commodities whose supplies are limited in comparison 
with the desire for them and which are therefore objects of 
economy. These are appropriately named economic goods 
and taken together constitute the wealth to secure which 
men engage in business. The characteristic of economic 
goods is that Miey have value as well as utility. 

The term, value, is used in two distinct, although closely 
related, senses in economics, and this has given rise to a 
great deal of confusion. Pt may designate the importance 
which a person ascribes to a unit of a good as a condition 
to the gratification of his wants. This is value in the sub- 
jective sense and may be distinguished as value in use^ 
fin the phrases, " the value of a loaf of bread to a starving! ^ 
man is beyond calculation " and " no one knows the value 
of an object until he has to do without it," values in use 
are meant. The other sense of the term is that of value in 
exchange. When a bushel of wheat is said to be twice as 
valuable as a bushel of corn, it is the exchange ratio be- 
tween the Hvo that is referred to. Value in exchange is 
thus the power of a good to command other goods in ex- 
change for itself. In future in this book the word value 
by itself will be used in the sense of value in exchange. 

The three conceptions, utility, value in use and value 
in exchange, are analyzed more fully in the chapter on 



* 



DEFINITIONS OF COMMON TERMS 7 

Value and Price. At this point it will suffice to suggest 
very briefly the relations which they bear to one another. 
Free goods have no value in use, that is, single units of 
such goods have no importance as conditions to the 
gratification of wants. Thus a cubic foot of air in the 
room in which the reader sits has no value, although it has 
utility, because it would not be missed if withdrawn/ Other 
air would rush in from adjoining rooms and from out- 
doors and the equilibrium of atmospheric pressure would 
be almost immediately re-established. If the room were 
made air-tight, however, and one cubic foot of air after 
another were withdrawn, the situation would be quite 
changed. Now, instead of being indifferent, each cubic 
foot of air would be of importance ; and as one cubic foot 
after another was taken away this importance would stead- 
ily increase. As the air became thinner, discomfort, stran- 
gulation and finally death would ensue, unless the process 
of exhaustion could be checked. The reader would in this 
case ascribe high value to air, holding it as precious when 
at the last extremity as life itself. As this illustration 
indicates, value in use is variable and measures the extent 
of man's dependence under the given conditions of supply 
upon a unit of the good being valued. 

The relation between value in use and value in exchange 
is somewhat more complex. At the outset it is obvious that 
a good must have value in use to some one as a condition 
to its having value in exchange. Such value in use may be 
immediate, as in the case of goods finished and ready for 
consumption, or remote, as in the case of raw materials. 
Unless it is present there can be no value in exchange for 
the simple reason that no one will give anything for some- 
thing which no one considers of any importance. In the 
second place a good which has value in use to two or more 
persons so situated that they may have business dealings 
with one another will normally have value in exchange # 
This may be inferred from the definition of value in use, 



8 PRELIMINARY SURVEY OF THE FIELD 

since a good which is of importance to the well-being of 
two or more persons can hardly fail to be worth something 
in other goods. Since value in exchange never arises in 
the absence of value in use, and, on the other hand, nor- 
mally results when value in use is present, there must be a 
close causal connection between the two. The explanation 
of this connection must be deferred to Chapter III. 

Closely related to value in exchange is another familiar 
concept, that of price. As ordinarily used in business con- 
versation price designates exchange value measured in 
terms of money, money being the universal medium of ex- 
change. In the United States prices are expressed in dol- 
lars and cents, and the dollar is maintained, by means of 
regulations described in Chapter XIV., as the invariable 
exchange equivalent of 23.22 grains of pure gold. It 
follows that current American prices indicate the quanti- 
ties of the commodity gold, for which units of the com- 
modities priced would exchange on the given date in the 
given market. 

6. Production and Consumption. — The limitation on 
the supplies of goods which makes them economic, or val- 
uable, may be due to the fact that they are unique, that 
they are controlled by a monopoly or simply that busi- 
ness activity is required to bring them into existence. 
Examples of absolute limitation are afforded by old coins 
or stamps, pictures by deceased artists, etc. Such goods 
often acquire with age a value out of all proportion to the 
esteem in which they were originally held. Monopolized 
goods are equally familiar. Such are patented goods and 
those produced by means of secret processes. Most com- 
mon of all are goods whose supplies are limited simply be- 
cause business activity is needed to create them. 

The creation of economic goods, or, more accurately, of 

the utilities embodied in them, is called production. It is 

^:he chief purpose of business activity. Contrasted with 

it is consumption, the utilization of goods as a means to the 



PRODUCTION AND CONSUMPTION 9 

gratification of wants. Consumption, as already sug- 
gested, furnishes the principal motive for business activity. 
The utilization of goods as means to gratification must, 
for the sake of clearness, be sharply contrasted with pro- 
ductive utilization, as for example of fuel or raw materials 
in manufacturing. The latter, although sometimes de- 
scribed by the misleading phrase " productive consump- 
tion," is really production itself. It has nothing in com- 
mon with consumption except that it too usually involves 
the destruction of the utilities in the goods utilized. 

To the extent that business activity entails effort it is 
obvious why its products must normally have value. If 
they did not, business men would be under no inducement 
to produce them. But business is often merely a form of 
pleasurable activity. Why, it may be asked, are not goods 
which it is a pleasure to create, such as the products of 
talented artists, multiplied until they become free like the 
superabundant gifts of nature? The mere statement of 
this question suggests the answer. In the first place artis- 
tic talent is rare in comparison with the demand for artis- 
tic products. Even if all artists of first-rate ability were 
so constituted th*at they could derive unalloyed pleasure 
from their work during ten hours out of every twenty-four, 
there would still be a scarcity of artistic products which 
would prevent them from being free goods. But few if 
any artists are able to work even ten hours a day without 
incurring a sacrifice, and this is the second reason. Pro- 
duction and consumption are usually mutually exclusive 
and each takes time. It follows that the hours spent, no 
matter how pleasantly, in production, are hours sub- 
tracted from the consuming period. So long as the hours 
devoted to business activity afford more pleasure than 
would the same hours devoted to leisurely consumption, the 
former involves no sacrifice. But as work is continued 
through the day it loses in interest, while leisurely con- 
sumption gains in attraction. In consequence after a few 



10 PRELIMINARY SURVEY OF THE FIELD 

hours' toil the balance is usually turned and work, even 
though still pleasurable, ceases to be more pleasurable than 
consumption. In this situation to continue to produce is 
to make a sacrifice. As the economic man declines to put 
forth effort that is not rewarded in valuable products, 
so he declines to incur sacrifice that is not similarly recom- 
pensed. This fact limits the supplies of all goods except 
those which nature furnishes in superabundance, and is one 
of the fundamental causes of value. 

It might be thought that improvements in methods of 
production would increase the number of free goods, but 
experience seems to show that wants multiply even more 
rapidly than processes improve and that the number of 
free goods is growing smaller rather than larger as time 
goes on. Even pure water and air, to people who live in 
cities, are now among the economic goods which command 
a price. 

The sum of the efforts and sacrifices that are involved in 
production constitute what is known in economics as the 
cost of production^ They are the advances which must be 
recompensed in the value of the product^, if actual loss in 
well-being is to be avoided* Hinder favorable circumstances 
such cost involves only sacrificesj that is, the doing of 
things that are less pleasurable than other things that 
might be done, but free from any element of pain. The 
tendency of evolution appears clearly to be towards bring- 
ing all costs to this level* As the same productive tasks 
are performed generation' after generation human organ- 
isms become adapted to them so that children do with ease 
what their fathers could do only with difficulty and effort. 
If methods of production were not constantly changing so 
that muscles and nerves are required to adapt themselves 
to ever new situations a stage might soon be reached in 
which all production would be painless* This is one of the 
goals towards which economic progress should consciously 
be directed. 



WORK AND PAY 11 

To be contrasted with the costs of production, which are 
psychological or subjective, are the expenses of 'produc- 
tion, that is, the advances made for materials, labor and 
all the other things which co-operate in bringing about 
productive results. The latter are objective and may be 
expressed as sums of money comparable with the prices 
received for products. 

7. Work and Pay. — Until the last one hundred and fifty 
years it was customary for most families to produce for 
themselves most of the things which they required. Under 
such conditions the relation between work and pay was 
very simple. Each family got all or a portion of the iden- 
tical things which it produced and was made to feel keenly 
its dependence upon its own exertions and upon favor- 
ing natural conditions. The introduction of machinery 
and the era of specialization to which it has given rise have 
changed this situation. At present most families produce 
but little for their own direct consumption. Those who 
dwell in cities and towns, and even those who dwell in the 
country, produce for the most part for the market and 
rely upon the market for the things which they require. 
Nor is this the only complication. The great majority in 
modern communities produce as hired workmen and have 
no direct share in what they produce nor knowledge of the 
conditions under which the product is marketed. They 
receive as their compensation wages or salaries agreed 
upon beforehand and shift to their employers responsi- 
bility for the success of the business enterprises in which 
they are engaged. Under these conditions the problem of 
work and pay has become one of the most difficult in the 
whole field of economics^ 

Foremost among the world's workers are the so-called 
captains of industry, or entrepreneurs, who direct indus- 
trial processes. Their remuneration comes to them as 
profits or balances left over from the sale of products after 
all of the expenses of production have been paid. Below 



12 PRELIMINARY SURVEY OF THE FIELD 

them are the lieutenants of industry, the salaried man- 
agers and bosses, and at the bottom the rank and file of 
the industrial army which is paid its remuneration in the 
form of monthly, weekly or daily wages. A complete ex- 
planation of wages involves a study of the causes that de- 
termine the prices of the products of industry out of which 
money wages ultimately come, of the circumstances which 
determine labor's share of these prices and finally of the 
terms on which money wages are exchanged for the goods 
which laborers consume, since the latter constitute the 
real wages of labor. Each one of these subjects of in- 
quiry represents an obstacle which under present condi- 
tions intrudes itself between the product of labor and the 
pay of labor and causes wage-earners to feel themselves 
dependent for their remuneration upon the good-will 
of employers even more than upon the quantity and 
quality of their work or the favorableness of natural 
conditions. 

Under the manorial system, which prevailed in Europe 
in the Middle Ages, the most important influence fixing the 
pay of farm laborers was the custom which determined 
how large an allotment of land each should receive and 
what services he should render in exchange for it. In 
later centuries custom was supplemented by law and judi- 
cial regulation in the determination of this important mat- 
ter. Thus in England not only were laws passed fixing 
the rate of pay for particular kinds of work, but the gen- 
eral rule was established that justices of the peace should 
have power to regulate wages. Neither custom nor law 
now plays much part in the fixing of wages. Their deter- 
mination is left to free bargaining in all Western coun- 
tries, and it is difficult for most people even to entertain the 
idea of a different system. Of no country is this more true 
than of the United States. American courts have over and 
over again declared that the rights to liberty and to prop- 
erty guaranteed in all of the State constitutions embrace 



PROPERTY AND ITS EARNINGS 



'# 



the right of employer and employee freely to contract or 
bargain, and that laws attempting to abrogate freedom of 
contract and to put in its place custom or legal regulation 
as the determinants of wages are unconstitutional. As is 
pointed out in the chapter on The Legal Regulation of 
Labor, there is reason to think that judges have gone too 
far, at times, in their application of this principle, but its 
fundamental importance to the present industrial organi- 
zation is beyond question. 

8. Property and its Earnings. — Next to the right freely 
to contract, the right to property is the one most jealously 
guarded by modern governments. The significant aspect 
of the right to property in this connection is the right to 
use it as a means of securing income. English and Amer- 
ican law distinguishes between real and personal property. 
Economics, in rough conformity to this classification, dis- 
tinguishes between land and other gifts of nature, and 
capital goods, that is, products of past industry used in 
the present as aids to further production. Both forms of 
property afford incomes to their possessors, that from land 
being known in economics as rent and that from capital 
goods as interest. 

The problem of property and its earnings is quite as 
complicated as that of work and pay. In it are involved 
not merely economic, but moral relations of the profound- 
est significance. The economist must not merely explain 
the reasons for the earnings assigned to property and the 
circumstances that determine their amount, but also sup- 
ply the basis for a wise decision as to the social utility of 
the system which permits these earnings to go to individual 
property owners. It is customary in treatises on eco- 
nomics to group together all of the problems connected 
with work and pay and property and its earnings into one 
great department of the study known as Distribution, 
This has to do with the causes which determine the division 
of economic goods among the individuals in industrial so- 



14 PRELIMINARY SURVEY OF THE FIELD 

ciety. It is the concluding stage in the process of pro- 
duction, and a necessary preliminary to consumption. 

9. The Methods of Economics. — The methods of eco- 
nomics are the same as those of other sciences, but the com- 
plexity of the phenomena treated makes necessary great 
caution in the use of these methods. The method upon 
which most reliance was placed by the older English econ- 
omists was the deductive, or a priori. It consists, as 
treatises on logic explain, in reasoning from general prop- 
ositions to their particular applications. In economics 
many of the most important of the general propositions, 
or premises, used are borrowed from other sciences (e. g., 
psychology, law), and this makes some knowledge of these 
subjects an indispensable part of the mental equipment 
of the economist. When a premise is only roughly accu- 
rate, as is for example the assumption that wages are de- 
termined in the United States by free and equal bargain- 
ing between employers and employees in which each pur- 
sues his own interest with the same persistency and the 
same knowledge of the situation as the other, it goes with- 
out saying that conclusions will be only roughly accurate 
also, and will need to be tested, if not corrected, by experi- 
ence. Since rough accuracy is all that can be claimed for 
most of the assumptions used in economics, the student 
must be particularly careful to weigh the conclusions 
reached at each stage of a long deductive argument, before 
he attempts to give them practical application. 

The inductive, or a posteriori, method is just the reverse 
of the deductive, since it consists in summing up a number 
of particular propositions in a general conclusion. By 
means of induction the detailed observations of like phe- 
nomena, which result from the field work of science, are 
grouped together in general statements. The latter then 
serve as the premises for deduction, which carries the con- 
clusion beyond the range of direct observation. To be 
sure of the accuracy of the result the scientist must appeal 



ECONOMIC LAWS 15 

to observation again as a means of verification. The 
progress of science thus begins and ends with observation. 

Where the phenomena to be observed are as numerous as 
they are in economics, induction may take the form of sta- 
tistics. Individual instances of the same phenomenon are 
counted and the result given in numerical form. By means 
of statistics a quantitative value is given to the conclusions 
of induction which justifies greater confidence in them. 
The statistical method is applicable as yet to only the sim- 
pler problems of the science, but such progress has recently 
been made in the collection and tabulation of statistics 
that there is every reason to anticipate results of steadily 
increasing importance from its use. 

10. Economic Laws. — Much confusion exists in regard 
to the nature of the laws of economics. Some writers de- 
claim against governmental policies which they do not like 
on the ground that they are violations of economic law. 
Others are equally vociferous in affirming that economic 
law cannot be changed by any act of the legislature. Nei- 
ther statement, as it is ordinarily understood, is true of 
economic law in the scientific sense. 

A scientific law is a statement of the relation that is be- 
lieved to obtain among phenomena. This relation may be 
one of coexistence or of sequence. To illustrate, it is a law 
of economics that the prices at which identical units ®f 
any good are sold in markets between which such units may 
pass freely without any deterioration in quality or loss in 
quantity, will not for any length of time differ by more 
than the expense of carriage between such markets. This 
is a law of coexistence which is proved by deductive and 
confirmed by inductive reasoning. Again, it is a law of 
economics that an increase in the supply of the units of 
any good offered for sale in any market tends to lower the 
price that can be secured for it. This is a law of sequence. 
In both cases, it should be noted, there is implied or ex- 
pressed the absence of disturbing factors. Free communi- 



16 PRELIMINARY SURVEY OF THE FIELD 

cation between the markets must be maintained or the first 
law ceases to hold good. The second law describes a tend- 
ency. The increased supply may not actually cause a 
fall in price because it may be offset or more than offset 
by an increase in demand. In the statement of all eco- 
nomic laws it is taken for granted that other things re- 
main the same so that the influences upon which the opera- 
tion of the law depends will have an opportunity to work 
out their normal effects. 

To be contrasted with law in the scientific sense, are law 
in the moral and law in the juristic sense. Moral law 
states not what is but what ought to be. It is in this sense 
often that the term economic law is used when particular 
policies are said to violate it. It needs no argument to 
prove that such a use of the term has no place in a scien- 
tific treatise. Law in the juristic sense has already been 
defined (Section 2) and is not likely to cause confusion. 

The statement that economic law cannot be changed by 
legislation is literally true. It is equally true, however, 
that economic conditions may be changed by legislation 
and that this may render entirely inapplicable economic 
laws that were previously significant. The development of 
the legal system of each industrial society makes necessary 
a continuous recasting of the laws of economics if that 
science is to remain in vital relation with actual business 
conditions. Old premises must be discarded and new prem- 
ises in harmony with the new situation must be formulated. 
For this reason the implication of the statement " economic 
law cannot be changed by legislation," that is, that legis- 
lation cannot give a new direction to economic forces and 
in that way modify old relations among economic phenom- 
ena, is quite misleading. 

ii. Outline of Book and Conclusion. — In the following 
chapters the different divisions of economics are treated in 
the order suggested in the preceding survey. The subject 
of consumption is first discussed as an introduction to a 



OUTLINE OF BOOK 17 

fuller treatment of value and price. Then follow chapters 
on production and distribution, in which the leading prin- 
ciples of the subject are explained. The work concludes 
with chapters on money and on problems of the day falling 
within the scope of economics. In the closing chapter, on 
Economic Progress, suggestions scattered through the 
book are brought together into a systematic program of 
economic reform. 

As a conclusion to this preliminary survey a word of 
caution may not be out of place. Economics is an intensely 
human study. Dealing as it does with relations upon 
which the well-being of individuals and even of whole social 
classes depends, it makes constant appeals to the sympa- 
thies and prejudices. This fact serves to make it interest- 
ing, but it has the disadvantage of appealing to the emo- 
tions, when emotion can only serve to bias the judgment, 
as well as when it may help to right wrongs and to promote 
progress. In studying the principles of economics, passion, 
except the passion for truth, is out of place. What is 
needed is the same calm judgment that has done so much 
to advance the natural sciences. The student should con- 
stantly have in mind the thought that his primary task is 
to explain existing business relations. He must understand 
how they came to be, and the forces that perpetuate them. 
He must detect the laws which govern them and try to see 
them in their proper perspective as features in a great evo- 
lutionary process. Only when he has fulfilled this purely 
scientific part of his task is he equipped to take up the 
discussion of practical problems and to throw his weight on 
this side or that in accordance with the dictates of his 
trained judgment. There need be no antagonism between 
this pursuit of truth and the zeal of the good citizen or 
the ardor of the social reformer. These, too, need to be 
fostered, but the sounder the economic judgment which 
directs them, the larger the contribution they can make 
toward true progress. What is to be avoided is mistak- 



18 PRELIMINARY SURVEY OF THE FIELD 

ing the suggestions of sympathy or of class prejudice for 
the dictates of reason. And this can be done only by devel- 
oping the scientific temper to serve, not as a substitute for, 
but as a guide to the social sympathies. 



REFERENCES FOR COLLATERAL READING 

* Clark, Essentials of Economic Theory, Chap. I. ; * Seliyman, 
Principles of Economics, Part I.; * Marshall, Principles of Eco- 
nomics, Books I. and II.; Ely, Outlines of Economics, Chap. X., 
Book I.; Chap. I., Part I., Book II.; * Gide, Political Economy, Book 
I.; Keynes, The Scope and Method of Economics; Palgrave, Dic- 
tionary of Political Economy, articles entitled "Economic Science," 
" Method of Political Economy," etc. 

BIBLIOGRAPHICAL NOTE 

Because of the diversity of views which it presents, the literature 
of economics is likely to prove confusing to one who takes up the 
study for the first time. In order to see the relation among different 
writers and different schools, the beginner will do well, before he 
ventures far into the subject, to read a brief history of economic 
theory. 

Ingram's History of Political Economy and Price's Political Econ- 
omy in England may be recommended for this purpose. Cannan's 
History of Theories of Production and Distribution may then be read 
in connection with the works which it discusses. It will be found 
helpful to learn something about each author before reading what 
he has to say on any particular topic, and to this end dictionaries 
of political economy should be used. The standard English work is 
Palgrave's Dictionary of Political Economy. Readers of German 
should consult also Conrad's admirable Handworterbuch der Stoats- 
wissenschaften, while readers of French will find Say's Dictionnaire 
ffficonomie Politique helpful. 

The principal writers who have contributed to the literature of 
economics available in English may conveniently be distinguished 
into four groups: 

I. "The English classical school" is the term applied to Adam 
Smith (The Wealth of Nations), Malthus (Essay on Population), 
Ricardo (Principles of Political Economy and Taxation) and John 
Stuart Mill (Principles of Political Economy), and their followers. 
Rae's Life of Adam Smith, Bonar's Malthus and His Work and J. S. 
Mill's Autobiography may be read with profit in connection with the 
works of these authors. 

II. A reaction against the doctrines and method of the classical 
school began about the middle of the last century, and to it the term 
" historical school " is usually applied. The chief representatives of 
this school in Great Britain were Cliff e Leslie (Essays in Political 
and Moral Philosophy) and Toynbee (The Industrial Revolution). 



BIBLIOGRAPHICAL NOTE 19 

The school has had its greatest development in Germany, where it 
is now represented by Gustav Schmoller (The Mercantile System) 
at the University of Berlin, Karl Biicher (Industrial Evolution) at 
the University of Leipsic and other distinguished economists. 

III. A reaction against the classical school in quite a different 
direction is usually spoken of as the " Austrian school " because of 
the large part which the Austrian economists Carl Menger, Bohm- 
Bawerk and Wieser have played in its progress. In Great Britain 
it has been represented by Jevons (Theory of Political Economy; 
Money and the Mechanism of Exchange) and Smart (Introduction 
to the Theory of Value; Distribution of Income). The important 
works of Bohm-Bawerk (Capital and Interest; The Positive Theory 
of Capital) and of Wieser (Natural Value) have been translated 
into English. 

IV. Few contemporary British or American writers would care to 
be classed rigidly with either of the three schools referred to. For 
that reason it seems best to treat them as a separate group. Prom- 
inent among British economists are Marshall (Principles of Eco- 
nomics; Economics of Industry), Edgeworth (articles applying the 
mathematical method to economic problems in the British Economic 
Journal), Nicholson (Principles of Political Economy; Money and 
Monetary Problems), Cannan (Theories of Production and Distri- 
bution), Bonar (Philosophy and Political Economy; Malthus and His 
Work), Rae (Life of Adam Smith; Contemporary Socialism; Eight 
Hours for Work), Bastable (Public Finance; The Theory of Inter- 
national Trade) and Hobson (The Evolution of Modern Capitalism). 

Among American economists should be mentioned the late General 
Walker (Political Economy; The Wages Question; Money; Inter- 
national Bimetallism) and the late Professor Dunbar (Theory and 
History of Banking). Prominent among contemporary writers are 
Sumner (History of American Currency; Lectures on the History of 
Protectionism in the United States), Clark (The Philosophy of 
Wealth; The Distribution of Wealth; The Essentials of Economic 
Theory), Patten (Consumption; The Theory of Dynamic Economics; 
The New Basis of Civilization), Adams (Relation of the State to 
Industrial Action; Public Debts; The Science of Finance), Hadley 
(Railroad Transportation; Economics), Ely (Problems of To-day; 
Outlines of Economics; Monopolies and Trusts), Seligman (Essays 
in Taxation; The Incidence of Taxation; The Economic Interpreta- 
tion of History; Principles of Economics), Taussig (Tariff History 
of the United States; Wages and Capital), and Jenks (The Trust 
Problem). 

Although by no means exhaustive the above list of authors and 
titles will serve to give some idea of the scope of the general litera- 
ture of economics. It may be supplemented by the excellent bibliog- 
raphies contained in the following works: Bowker and lies, The 
Reader's Guide in Economic, Social and Political Science; Cossa, 
Introduction to the Study of Political Economy; Bullock, Introduc- 
tion to the Study of Economics; Seligman, Principles of Economics. 

Much of the contemporary literature of economics must be sought 
in the monographic series published by the American Economic 
Association and by the leading universities. The principal periodicals 
devoted in whole or in part to economics are: The Quarterly Journal 
of Economics (Harvard University, 1886-1908, 22 vols.); Political 



20 PRELIMINARY SURVEY OF THE FIELD 

Science Quarterly (Columbia University, 1886-1908, 23 vols.); An- 
nals of the American Academy of Political and Social Science (Phil- 
adelphia, 1890-1908, 32 vols.); The Yale Review (Yale University, 
1892-1908, 16 vols.) ; The Journal of Political Economy (Chicago 
University, 1892-1908, 16 vols.); The British Economic Journal (Brit- 
ish Economic Association, London, 1891-1908, 18 vols.) ; The Eco- 
nomic Review (London, 1891-1908, 18 vols.). 



CHAPTER II 
THE CONSUMPTION OF WEALTH 

12. Characteristics of Human Wants. — As one of the 
main divisions of economics, consumption treats of the 
relations between wants and the means to their gratifica- 
tion, goods. The characteristics of wants first demand 
attention. 

It is a familiar fact of human experience that wants are 
indefinitely numerous. Every day, in the consciousness of 
every normal person, many wants for commodities and 
services are felt which must of necessity go ungratified. 
Upon this simple fact is based the law that the consuming 
power of a community is indefinitely great. 

A second familiar characteristic of wants is that they 
are of very different degrees of intensity. This is realized 
as soon as one tries to arrange all of the wants of which 
he is conscious in a scale according to their importance. 
Such an endeavor reveals also the difficulty of measuring 
wants and the complexity of those which direct daily life. 
Corresponding to every want that comes within the scope 
of economics, is a utility or combination of utilities capa- 
ble of gratifying it. The intensities of wants determine 
degrees of utility and thus, as is shown later, have great 
influence in fixing the values of the economic goods in 
which utilities are embodied. 

13. The Law of Diminishing Utility. — Variable as 
they are in intensity, all wants are subject to a law of 
gradual diminution and final satiety as consumption is 
continued. This may be illustrated by reference to food. 
A healthy American boy, given a breakfast of unlimited 

21 



22 THE CONSUMPTION OF WEALTH 

buckwheat cakes, attacks the first plateful with great 
avidity. His eagerness is reduced by each additional 
plateful, until his hunger is satisfied and he must reluc- 
tantly confess that he has had enough. As an individual's 
capacity to enjoy food is limited, so is his capacity to 
enjoy clothes. A normal person feels intensely the need 
of one respectable suit of clothes, pair of shoes, etc. A 
second suit is less indispensable, but gratifies a lively de- 
sire. Additional suits gratify wants of steadily dimin- 
ishing intensities, and in time the point of satiety is reached 
even by the most fastidious dandy. Less material wants 
obey the same law. Eyes tire of beautiful pictures or 
beautiful scenes. Ears are deadened in time by even the 
sweetest music. In short, each receptive faculty is subject 
to exhaustion and requires time to recuperate. Upon this 
psychological principle is based an economic law of con- 
siderable importance, that of diminishing utility. We may 
formulate it as follows: The utilities of additional units 
of any good to any consumer diminish normally as his sup- 
ply of units of that good increases. This law assumes, of 
course, that no change takes place in the character of the 
consumer as his supply is being increased. 

14. Present vs. Future Goods. — The normal man lives 
in the present and will make greater sacrifices to insure the 
gratification of present than of future wants. Though 
very general, this characteristic of wants is more marked 
for some social classes than for others. It would not be 
far from the truth to say that young children and sav- 
ages live entirely in the present ; that the manual laboring 
classes, especially in climates where the winters are mild, 
look only a few months or a few years ahead in their eco- 
nomic calculations; that the great class of artisans and 
merchants plan with reference to their own lives and the 
lives of their children; and that the founders of large 
family fortunes include generations yet unborn in their 
view. It is in such psychological differences as these that 



THE LAW OP DEMAND £3 

economists discover a chief reason for the persistence of 
inequalities of fortune, even in new countries where the 
same opportunities for advancement are open to all. 

This fourth characteristic of wants is the basis of a 
second law in regard to utility which has reference to the 
time of consumption rather than to the quantity to be 
consumed. If goods available for present consumption 
be called present goods, and those to be available in the 
future — which may exist in the present as unfinished ma- 
terials — future goods, the law may be formulated as fol- 
lows : The utility of future goods is less to the normal con- 
sumer than the utility of present goods of like kind and 
quality by an amount varying directly with the degree of 
futurity. 

15. The Law of Demand. — Closely related to the law 
of diminishing utility is the law of demand. Since suc- 
cessive units of any good gratify less and less intense 
wants, the desire for successive units diminishes. Demand, 
as the term is used in economics, denotes effective desire, 
that is, desire coupled with ability to pay the current price 
for the desired object. The general law of demand is that 
it varies directly with changes in the intensity of wants 
and inversely with changes in the prices that must be paid 
for goods. To illustrate, the development of a new taste 
increases a person's demand for the good capable of grat- 
ifying that taste. More of that good will be purchased 
even though its price remain as before. On the other 
hand, even though a person's taste be unchanged he will 
be inclined to purchase more of a good whose price is 
reduced. 

When demand increases or decreases readily in response 
to price changes it is said to be elastic. This is the case 
with the demand for goods which are on the border line 
between necessaries and comforts. A slight fall in the 
price of such goods brings them within the reach of many 
consumers who before could not afford them. At the 



24 THE CONSUMPTION OF WEALTH 

other extreme are the jpery cheap necessaries used by 
all classes, such as potatoes, salt, sugar, etc., in the United 
States. A fall in the price of such goods will not increase 
the demand for them materially because everyone is 
already consuming them nearly down to the point of 
satiety. Where the conditions of production are variable, 
the costs of transportation prohibitive of shipment to dis- 
tant markets and the product itself perishable, it may, and 
often does, happen that the supply of goods for which the 
demand is inelastic exceeds the demand even at the lowest 
prices. At such times such goods become a drug in the 
market and anyone may have them who will go to the 
trouble of carrying them away. This situation is not 
unusual in country districts in the United States with ref- 
erence to such staple crops as potatoes and apples. The 
elasticity of the demand for a good thus has an impor- 
tant bearing upon the risks connected with its production. 
Elasticity of demand means stability of prices, inelasticity 
variability. To escape the latter in the case of commodi- 
ties like salt, matches, etc., for which the demand is in- 
elastic, has been a principal motive leading to the organi- 
zation of some of the trusts discussed in Chapter XXII. 

1 6. The Law of Variety. — The normal purpose of con- 
sumption is to afford pleasure. Since each kind of good 
is subject to the law of diminishing utility, the pleasures 
of consumption may be increased by attention to the law 
of variety. If a man has only corn bread for breakfast, 
to satisfy his hunger he must push his consumption of it 
beyond the point where it affords him appreciable gratifi- 
cation. If to his corn bread are added bacon, eggs and 
coffee, he will be able to supply his body with adequate 
nourishment, without being obliged to eat corn bread after 
he has ceased to relish it. Eating has been taken to illus- 
trate the law of variety because it is a universal experience, 
but the law applies equally well to other forms of con- 
sumption. It is really a corollary of the law of diminish- 



THE LAW OF HARMONY 25 

ing utility, since that law itself suggests the necessity of 
passing from one form of consumption to another to avoid 
the uncomfortable feeling of satiety. The ideal which the 
economic man should, and does unconsciously, have in mind 
is that of carrying each kind of consumption only to the 
point where it becomes less pleasurable than another form 
of consumption that may be enjoyed at the same expense. 
By changing to the new form of consumption whenever it 
affords the more pleasure, he is able to get the maximum 
gratification permitted by his income. 

The great obstacle to varied consumption is the expense 
of a varied assortment of goods, and this is felt most 
keenly where men live in comparative isolation. Home- 
steaders in the western part of the United States, and 
others in similar situations, have to content themselves 
with rough and simple fare, clothing, etc., because it does 
not pay them to make, in the small quantities adapted to 
their wants, those little things which contribute so much 
to the refinement of life. Every advance which tends to 
bring people into closer industrial relations is favorable 
to a more varied consumption and consequently to an in- 
crease in well-being. Recent improvements in transpor- 
tation facilities encourage the hope that the varied mar- 
kets of the city will one day be brought within the reach 
of every country family, while city families will be given 
opportunities to share the free goods of the country. 
Such an arrangement will add enormously to the general 
well-being. 

17. The Law of Harmony — Next to the law of variety 
as a guide to judicious consumption stands the law of 
harmony. Harmony of color and form in dress is indis- 
pensable to a pleasing effect. In sculpture, painting, 
architecture and music, harmony is the all-important 
requisite. Even in eating harmonious combinations are 
important, as is attested by the pangs of indigestion 
which follow the consumption of such combinations as 



26 THE CONSUMPTION OF WEALTH 

candy and beer, or milk and lobster. In a comparatively 
new country like the United States the average man is 
more likely to ignore the law of harmony than the law of 
variety. The American tendency has been to exaggerate 
the importance of quantity and size to the neglect of the 
subtle harmonies which alone give permanent satisfaction. 
As a result there has been relatively little demand in the 
United States for the taste and talent of artists and 
skilled artisans and great demand for the uniform and 
too frequently ugly products of machinery. The devel- 
opment of large cities and the addition of new racial types 
to the population through immigration seem to be rapidly 
changing this situation to the advantage of all classes. 

18. The Law of Least Social Cost A third aspect of 

consumption involves its relation to production. It is im- 
portant, by attention to the laws of variety and harmony, 
to obtain the largest possible return from the stocks of 
goods available for consumption. It is equally important, 
while securing a given return of pleasure from consump- 
tion, to select those goods which can be produced with the 
least expenditure of effort. This is the law of least social 
cost. Its first application has reference to the natural 
conditions of a country. 

Economic progress depends in part on the adaptation 
of men's wants to the productive capacities of the partic- 
ular regions which they inhabit. When colonists settle 
in a new country they bring with them a taste for the com- 
modities they were used to at home. The soil and climate 
of their new environment are rarely suited to the produc- 
tion of these identical things, and hence their well-being 
depends for some time on the readiness with which they 
learn to like things for which the new soil and climate are 
suited. But men do not give up settled habits easily. 
They waste much time and effort in trying to make the 
land produce what they like, in place of learning to like 
what the land can best produce. Thus in America it took 



THE LAW OF LEAST SOCIAL COST 27 

the early settlers a long time to substitute a diet of Indian 
corn for the diet of wheat and rye to which they had been 
accustomed in Europe, and many of their early disap- 
pointments were due to their unsuccessful efforts to pro- 
duce the grains of the Old World. 

A second application of the principle of least social cost 
refers to differences in the capacities and tastes of pro- 
ducers. Its importance may be shown by means of an 
example. Klotz is a poor German who has come to the 
United States with a talent for playing the violin and 
some knowledge of shoemaking as his stock in trade. He 
settles in a town where there is little appreciation for 
music, and must therefore become a shoemaker. The work 
is hard and uninteresting. Every day he thinks how 
much pleasanter it would be to play his violin, but he must 
stick to his last or starve. As time goes on the town 
grows and people come to be Klotz's neighbors who appre- 
ciate his violin playing even more than his shoemaking. 
Through their efforts a small orchestra is organized with 
Klotz as leader, and it is not long before fondness for 
the music this orchestra can produce has become so gen- 
eral that Klotz finds that he can discard his leather apron 
entirely and give all of his time to the work that is his 
pleasure as well as his means of livelihood. By a change 
of taste in the community a discontented shoemaker is 
transformed into a happy musician. If the change has 
been genuine the community gets a full return for what 
it gives Klotz for his music. It affords as much if not 
more pleasure than did the shoes which Klotz used to 
make, but added to this pleasure of consumers is the new- 
found happiness of Klotz, the producer. 

As this illustration suggests, the things that people 
want and are willing to pay for are the things that must 
be produced. As consumers the members of society deter- 
mine how they shall, as producers, spend their time and 
effort. As regards the necessaries of life consumers have 



28 THE CONSUMPTION OF WEALTH 

perhaps no very great range of choice. They must learn 
to like those things that can be produced most easily in 
the given environment. If Klotz, the musician, gives up 
making shoes, someone else, who finds the task less irk- 
some, must make them. But only a part of the com- 
munity's income is spent for necessaries. If it prefers as 
comforts and luxuries articles which can be most advan- 
tageously produced in factories where automatic machin- 
ery impresses its standards of unvarying uniformity not 
only upon the products turned out, but also upon the oper- 
atives engaged in making these products, then the ranks 
of factory labor must be crowded and other occupations 
must be neglected. If, on the other hand, it prefers music 
and objects of beauty, each one, however simple, reflecting 
the individuality of the craftsman who has fashioned it 
with loving thought, then musicians, artists and artisans 
will find remunerative employment and quite a different 
tone will be given to the common industrial life. A com- 
munity's taste thus gives direction to its work and decides 
for better or for worse the kinds of lives that its members 
shall live. 

The law of least social cost has still another application. 
As is shown in a later chapter (Section 38) the principle 
that large-scale production is more economical than small- 
scale production is subject to important exceptions. In 
some cases, as, for example, in the production of agricul- 
tural products from a limited area, after cultivation has 
been carried to a certain point, to secure more products re- 
quires more rather than less proportionate labor. From 
the point of view of social cost it is obvious that increased 
consumption of articles of this sort is less advantageous 
than increased consumption of commodities whose cost de- 
creases as the quantity grows. 

The point that it is important to note in connection with 
each of the applications of the law of least social cost that 
has been given, is that the reduction of cost which may 



ECONOMICAL CONSUMPTION 29 

be secured by a simple change of wants involves no corre- 
sponding reduction in the pleasures of consumption. Con- 
sumers continue to be as well off as before, while producers 
are better off. Thus changes in wants may add to eco- 
nomic well-being just as effectively as changes in methods 
of production and are quite as worthy of the attention of 
economists. 

19. Economical Consumption. — The most obvious rela- 
tion between consumption and production grows out of the 
fact that consumers are also producers, and what they eat, 
drink and wear, the houses they live in and the amuse- 
ments they enjoy, have a determining influence on their 
efficiency. The ways in which different forms of consump- 
tion affect productive efficiency are more properly treated 
in the chapters on production. At this point attention 
will be called merely to the economy of different lines of 
expenditure, especially expenditures for food. 

Through careful experiments physiologists have ascer- 
tained with some degree of accuracy the amount of nutri- 
tion which the average man requires each day when en- 
gaged in different kinds of work. It is customary to 
express this as so many calories of heat energy, including 
so many grams of the indispensable protein, or tissue- 
building, compounds. The daily allowance made for the 
average man at moderate muscular work by the late Pro- 
fessor Atwater, an American authority in this field of in- 
vestigation, is 3500 calories, including at least 125 
grams of protein compounds. Men at hard labor and 
athletes in training require more, while brain workers 
appear to require somewhat less. 

Having established a standard, the next step is to ana- 
lyze different kinds of food to ascertain their nutritive 
value. Economical consumption is secured when the 
cheapest combination of foods containing the required in- 
gredients and both palatable and digestible for the given 
consumer, is selected. No general rules can be laid down 



\* 



SO THE CONSUMPTION OF WEALTH 

because of differences in the tastes and incomes of differ- 
ent consumers, but it is interesting to note the relation in 
which the food values of different foods stand to their cost. 
Professor Atwater drew up a table giving the quantity of 
each of several different kinds of food which might have 
been purchased for ten cents on a given day in New York 
City, and the amount of nutrition which each contained. 
From this it appears that, from the point of view of pro- 
tein contents, the most economical foods were preparations 
of wheat, corn, beans, oatmeal, beef for stewing and salt 
cod, while, from the point of view of potential heat energy, 
the most economical were wheat flour, cornmeal, oatmeal, 
potatoes, beans, salt pork and sugar. The table seems, on 
the whole, to bear out the common impression that a vege- 
table diet is much more economical than a diet consisting 
largely of meat, and that the cereals, wheat, corn, beans 
and oats, are the most economical of the vegetables. 

Science has, until recently, done very little to aid the 
ordinary man to direct his consumption wisely and eco- 
nomically, although every investigation into the consum- 
ing habits of the poorer classes reveals the fact that, small 
as are their incomes, a considerable part is wasted because 
the most economical foods, clothing, etc., are not selected. 
The importance of this phase of domestic economics is now 
fully appreciated and there is every indication that rapid 
progress is being made, especially in the larger cities, to- 
ward more economical consumption. 

20. Are Expenditures for Luxuries Justifiable? — 
Closely related to the question of economy in consumption 
is the question of luxury. As wealth is now distributed, 
the majority of families in every community must be eco- 
nomical in order to secure with their limited incomes the 
necessaries and ordinary comforts of life. Contrasted 
with them are the smaller number of families whose in- 
comes are large enough to permit the enjoyment of lux- 
uries. The question whether under such circumstances 



LUXURIES VS. NECESSARIES 31 

expenditure for luxuries is defensible is a question of 
morals rather than of economics, but the economist may 
well be called upon to decide which of the possible uses of 
surplus income available for luxuries is calculated to con- 
tribute most largely to the general well-being. 

To give precision to the discussion, luxuries may be de- 
fined as all economic goods which are not necessaries. 
Necessaries include not merely the food, clothing and shel- 
ter indispensable to life, but the entire complex of goods 
which each industrial class deems requisite to its industrial 
efficiency. The decision as to what these goods are is not 
to be made by reference to any absolute standard, but 
through study of each class affected. For example, man- 
ual laborers in the United States would certainly include 
tobacco among the necessaries of life and the economist 
should include it also in discussing their problems, for the 
simple reason that the average manual laborer would con- 
tinue to buy tobacco even though his earnings were too 
small to allow him to buy in addition goods indispensable 
to his industrial efficiency. Tobacco is to him a " con^r 
ventional necessary." A formal definition of economic nec- 
essaries would thus be: the things absolutely essential to 
the industrial efficiency of the average family in the class 
considered, together with the things that are preferred 
above the absolute necessaries by the member of the family 
who directs its consumption. 

It is obvious from the above definition that failure on 
the part of any family to secure the necessaries of life is 
injurious, not only to it, but to the whole community. 
Under-consumption means under-nutrition and loss in in- 
dustrial efficiency. If permitted to continue it must inevi- 
tably undermine the standards which make a family self- 
supporting and self-sufficient and reduce its members to 
dependency. The general interest will be furthered, there- 
fore, by acceptance of the maxim : the consumption of lux- 
uries should be indulged in only after all are provided with 



32 THE CONSUMPTION OF WEALTH 

necessaries. This is a moral principle that commends 
itself to all civilized communities and finds indirect expres- 
sion in positive law. The obstacle to its practical applica- 
tion is the difficulty of supplementing the incomes of inde- 
pendent families, when those incomes are insufficient, 
without undermining their independence and permanently 
lowering their earning power. Among the measures that 
have been taken to surmount this obstacle the principal are 
plans of industrial insurance, by means of which the fam- 
ilies of workingmen are assured necessaries in times of ill- 
ness, etc., and the erection of public employment establish- 
ments in which those in search of work may earn 
necessaries during periods of enforced unemployment. 

In the United States, in times of ordinary prosperity, 
all but the very lowest in the industrial scale have not only 
sufficient income to provide for necessaries, but some sur- 
plus income. Assuming that necessaries are assured to 
everyone, the question arises as to the use to which surplus 
income may most economically be put. According to 
strict utilitarian doctrine — which is another name for eco- 
nomic morality — the happiness of any one person is just 
as important quantity for quantity and quality for quality 
as the happiness of any other, and hence surplus incomes 
should be used so as to add equally to the happiness of all. 
This suggests that no one is justified in spending income 
for a luxury for himself or his family which will afford 
less happiness than would the same income spent for a lux- 
ury for someone else or for some other family. The dif- 
ficulty is that independent, self-respecting people do not 
want luxuries bought with other people's money. If the 
pleasures connected with economic goods are to be equal- 
ized it must be in some roundabout way. Without trying 
to exhaust the subject a few words may be said about 
each of the ways in which surplus incomes are usually 
employed. 

Notwithstanding the denunciations of moralists it is still 



LUXURIOUS EXPENDITURES CRITICIZED 33 

true that surplus incomes are largely expended on luxuries 
for the gratification of the spender himself, his family, or 
his immediate friends. In justification it is often urged by 
superficial observers that such expenditures " make work " 
for others and hence benefit them indirectly if not directly. 
This argument can be presented with a good deal of 
plausibility so long as only the one use of the income under 
consideration is thought of. A wealthy man gives an 
elaborate ball. In connection with it he employs decora- 
tors, caterers, waiters, etc. Those whom he invites employ 
dressmakers, hairdressers, etc., in their preparations for 
the event. The expenditure on the ball thus causes an 
active demand for labor of various kinds, which, but for 
the ball, would not have been required. Those who secure 
employment certainly regard such an entertainment in the 
light of a blessing. But consider other uses to which the 
money spent upon the ball might have been devoted. Sup- 
pose that it had been given to a wisely administered char- 
itable society for use in improving the condition of the 
poor. In such an event it would have been spent also 
largely for food, clothing and personal service, " making 
work " for numerous individuals who might otherwise have 
sought in vain for remunerative employment. So far as 
its effect on the labor market as a whole is concerned it 
would certainly convey as much benefit in the second case 
as in the first. Similar results would follow its expendi- 
ture in any other rational way. Even if it were not spent 
at all, but allowed to accumulate as a deposit in a bank, 
there is reason to think that it would " make work " for 
quite as many people as when used for the ball. Banks do 
not keep their funds in their vaults, but lend them out at 
interest to business men who employ them in connection 
with their businesses. This usually means buying mate- 
rials, hiring workmen, etc., and has as favorable an effect 
on the labor market as luxurious expenditure. Unless, 
therefore, the transient pleasure of a few people who are 



34 THE CONSUMPTION OF WEALTH 

already satiated with balls and similar diversions is to be 
esteemed above the lasting improvement of a great many 
people whose lives are all too bare of sunshine, the " make- 
work " argument can hardly be held to justify selfish 
luxury. The truth is that any rational mode of using in- 
come stimulates certain branches of industry and is to 
that extent beneficial to the small class of producers con- 
cerned. Money income represents an unassigned share in 
society's limited store of economic goods. If that share 
is taken and consumed in a form that affords little happi- 
ness, society is so much the worse off than if it had been 
taken in a form that afforded much happiness. 

21. Saving vs. Spending. — The use which many econ- 
omists still urge as the best to which surplus income 
may be put, is saving and investment. In contrast to 
purely selfish luxury, saving deserves all of the praise it 
has received. Wise investment adds to society's material 
equipment of tools, machinery, buildings, etc., for the pro- 
duction of economic goods. Hence it lightens the toil nec- 
essary to the realization of a certain productive result. 
Even more important is the fact that, through saving, a 
family may make itself economically independent, not in 
order that its members may give themselves up to idleness, 
but that they may choose their occupations with less exclu- 
sive reference to what we have called the bread-and-butter 
aspect of life. 

It may be doubted, however, whether, under present con- 
ditions, saving beyond what is necessary to assure economic 
independence benefits the world as much as would wise 
spending for some social object. Great wealth is almost, 
if not quite, as demoralizing as great poverty, and the man 
who really desires to contribute to social improvement will 
put a check upon his accumulations and give his time and 
thought to spending such income as he does not require 
for his own family in ways that will benefit others. If he 
continues to save he must finally, in drafting his will, face 



STATISTICS OF CONSUMPTION 35 

the problem of the best use of wealth. Passing on to his 
heirs more than is necessary to insure them economic inde- 
pendence is merely evading an issue which each should face 
squarely for himself. 

22. Statistics of Consumption. — It is much easier to 
ascertain how men earn their incomes and how much their 
incomes are, than how they spend them. In fact few fam- 
ilies have very exact knowledge on the latter point them- 
selves. They know how much they pay for house rent, 
perhaps how much they spend for coal and gas, but few 
keep accurate accounts of their expenditures for food, 
clothing and the incidentals that are an important element 
in all but the humblest budgets. Nevertheless several use- 
ful investigations into statistics of consumption have been 
made and certain general relations have been established. 
About the middle of the last century studies of expendi- 
tures were made in Belgium and Saxony upon which two 
economists, Ducpetiaux and Engel, based the following 
table, showing the proportional expenditures of different 
classes for different purposes in the two countries. 

Table of Expenditures of a 





Self-supporting 
Laborer's Family 
in 
Belgium Saxony 


Middle-class 
Family 

in 
Saxony 


Well-to-do 
Family 

in 
Saxony 


Food . 
Clothing 
Rent . 


. 61*] 
. 4 


62* 

16 

12 


•95* 


55*| 

11 h 


50*' 

18 

12 


.85# 


Fuel and light 
Tools, etc. . 


5 . 




* J 


5 




Education 


. 2 


2 


3.5 


5.5 


Taxation 


. 1 


1 


2 


3 


Care of health 


. 1 


1 


2 


3 


Personal service 


. 1 


1 




2.5 


3.5 





This table, confirmed by general observation, has been 
verified repeatedly by later statistical studies of consump- 
tion. As it indicates, manual laborers spend nearly all 



36 THE CONSUMPTION OF WEALTH 

of their incomes in providing for the gratification of their 
merely physical wants. They have little left for the 
higher needs of their natures, and if these are to be cared 
for it must be through community action realizing itself 
in free public schools, free playgrounds and parks, free 
concerts, free lectures, etc. People in more comfortable 
circumstances spend relatively less for food and relatively 
more for education and personal service. Expenditures 
for clothing and rent show no diminution, doubtless because 
clothes and houses are recognized as marks of social posi- 
tion and the desire for social esteem increases rather than 
decreases as income grows. 

23. Two Aspects of Consumption Thus far attention 

has been directed to detailed aspects of consumption. In 
conclusion something should be said touching its broader 
relations. 

Consumption may be looked at economically in two dif- 
ferent ways. The more familiar way is to regard it as 
the goal of economic activity and to show how the desire 
for goods causes them to have value and price and induces 
people to engage in industrial pursuits. Though per- 
fectly valid so far as it goes, this aspect of consumption 
must not be exaggerated. The other way of looking at it 
is as a means of restoring energy. The consumption of 
goods necessary to efficiency is not merely an end; it is a 
means to further production. Human beings are not mere 
goods-consuming automatons. They enjoy activity for its 
own sake, and the more highly developed they are, the more 
they are likely to look upon goods as means to the forms of 
activity they prefer, rather than as ends in themselves. 
It follows that desire for goods is only one, if the most 
important, of the motives which control the economic man. 
Desire for activity is another motive which in individual 
instances quite outweighs the desire for goods. 

At the present stage of human and social development 
the former of the above ways of regarding consumption is 



TWO ASPECTS OF CONSUMPTION 37 

believed to be the more accurate and helpful to an under- 
standing of economic phenomena. The latter is, however, ap- 
plicable already to many individuals and classes and must 
be kept in view in connection with all problems looking to 
the future. Economic phenomena are related not as cause 
and effect simply, but in a continuous circle of causation. 
Men produce, that is, expend energy, in order that they 
may consume ; but they consume, that is, store up energy, 
in order that they may again plunge into the activities of 
production. The ideal round is one in which the pleasures 
of production are as definite and real as the pleasures of 
consumption. Unfortunately the conditions of production 
are still so arduous for the mass of men that work is 
usually entered upon unwillingly and only under the stim- 
ulus of the prospect of pay. In the thought of the aver- 
age man consumption, or the desire to consume, thus stands 
as the motive for production. In the following chapters 
the point of view of the average man is accepted, and eco- 
nomic phenomena are explained by reference to it. The 
other point of view which finds work a joy, and goods 
merely aids to further work, receives attention in the clos- 
ing chapter on Economic Progress. 



REFERENCES FOR COLLATERAL READING 

* Patten, The Consumption of Wealth and Dynamic Economics; 

* Fetter, Principles of Economics, Chaps. IV. and XL. ; * Bullock, 
Selected Readings in Economics, Chap. VIII.; * Marshall, Principles 
of Economics, Book III.; Ely, Outlines of Economics, Book II., Part 
IV.; Mayo-Smith, Statistics and Economics, Book I., Chap. II.; 

* Atwater, Farmer's Bulletin, No. 142, published by the U. S. 
Department of Agriculture; Family Budgets collected by the Eco- 
nomic Club of London, 1891-1894; * Rowntree, Poverty, a Study of 
Town Life, Chaps. VI., VII. and VIII.; * More, Wage-earners' 
Budgets. 



CHAPTER III 
VALUE AND PRICE 

24. How Values in Use Are Determined. — As already 
explained, the term value is used in economics in two dif- 
ferent senses, one subjective, or pertaining to the relation 
between men and goods, and the other objective, or per- 
taining to the relation between goods and goods. We will 
begin this chapter with an analysis of the principles which 
govern values in use, or values in the first sense, and con- 
sider then the relation between such values and the ratios 
at which goods exchange for one another, or values in the 
second sense. 

The values in use of different goods depend on the inten- 
sities of the wants which they are to gratify. When the 
consumer has but a single unit of each kind of good and 
that good is capable of gratifying only one kind of want 
the valuation process is simple. By arranging his wants 
in a rough scale in accordance with their intensities, he can 
determine the comparative values of the corresponding 
goods. He will not be able to gage exactly the importance 
of the different goods, but he will be able to judge as 
to their relative importance. Thus if good a gratifies a 
more intense want than good 6, he will regard it as more 
valuable than b. If the want it gratifies is more intense 
than the wants gratified by both goods b and c, he will 
regard a as worth more than b and c together. In this 
way by reference to his scale of wants, the consumer is 
able to value the goods on which the gratification of his 
wants depends. 

But in the case of many goods single units will not suf- 



VALUES IN USE 39 

v 

fice to gratify the consumer's wants. On what principle are 
units of commodity valued when a number of units are used 
by the same consumer? As explained in the last chapter 
(Section 13) when a number of units of a good are available 
the principle of diminishing utility comes into play. The 
wants to be gratified by successive units of the good may 
be arranged in a scale according to their intensities. The 
first units of the good will be used to gratify the higher 
wants on the scale. Successive units will gratify less in- 
tense wants. If the supply of units of the good is lim- 
ited, the want to be gratified by the last available unit will 
have an appreciable intensity. This intensity determines 
the utility of the least important unit in the supply, which 
will be referred to in future as the margmal utility. A 
little analysis of the valuations that he himself is con- 
stantly making will convince the reader that when he has 
to value a unit of a good of which a stock is available he 
values it according to its marginal utility, that is, accord- 
ing to the least utility to him of a single unit of the good 
under the given conditions of supply. As a rational per- 
son he must value it in this way. All of the units being, 
by assumption, alike, the same valuation must apply indif- 
ferently to each of them. If one is taken away, it is the 
least intense want dependent on the available supply of the 
good that will go ungratified. If then this last unit is re- 
turned it is this least intense want that will be gratified. 
Thus it is the marginal utility that is gained or lost by 
the addition or withdrawal of a single unit of the supply. 
The value or importance of a unit of the good is, there- 
fore, measured by its marginal utility. It is because of 
this fact, that is, that consumers habitually measure the 
values in use of different goods by their marginal utilities, 
that low instead of high values are ascribed to such indis- 
pensable things as wheat, salt, sugar, etc. Such commod- 
ities would be immensely valuable if the available supplies 
of them were not enormously great. As it is, in normal 



40 VALUE AND PRICE 

times, their marginal utilities and consequently their values 
in use are low. In this explanation we have spoken of 
marginal utility as a conception applying to the least im- 
portant unit of a stock of a good. But when there is only 
one unit of a good available then the utility of that unit is 
necessarily the marginal utility. We may therefore for- 
mulate our conclusion as a general law, as follows: the 
values m use of economic goods are measured by their mar- 
ginal utilities. 

In order not to misunderstand the above law the reader 
should carefully note its limitations. In the first place it 
refers to the valuations of an isolated individual uninflu- 
enced by the opinions of others. How the complications of an 
organized industrial society affect the situation is consid- 
ered later (Section 26). Then, second, calculations of mar- 
ginal utility or values in use are always prospective. The 
consumer anticipates wants that he expects to feel in the 
future, judges by past experience what goods will serve to 
gratify them and estimates the importance of these goods 
by reference to his anticipations. As " there is many a 
slip 'twixt the cup and the lip," calculations of marginal 
utility may require radical revision before the goods to 
which they apply are actually consumed. A third limi- 
tation is that the law " values in use are measured by mar- 
ginal utilities " refers to the valuation of single units of 
goods. This corresponds to our habitual mode of making 
valuations. When iron is said to be less valuable than 
gold it is meant that a pound of iron is less important to 
man than a pound of gold. Every change in the supply 
of an economic good of course changes its marginal utility 
and therefore its value. This fact makes the value of a 
single unit multiplied by the available supply of units quite 
misleading as an index of total importance. Multiplying 
the slight value of a pound of iron by the number of 
pounds in existence would give a total representing very 
inadequately the value of iron to man. If an approxi- 



RELATION BETWEEN VALUES AND COSTS 41 

mate notion of the importance of the total supply of a 
commodity is sought, the only way to proceed is to add 
together the utilities of all the different units used by man. 
Such a calculation, could it be made, would show, of course, 
that indispensable free goods like air and water are more 
important than even the most costly economic goods. 

25. The Relation between Values and Costs. — In the 
preceding section the valuation process has been considered 
solely from the point of view of the gratifications which 
goods afford as they are consumed. Another point of view 
is that of the pains and sacrifices involved in producing 
them. To simplify the problem, consider the mental proc- 
esses of a man living in isolation, like Crusoe on his island, 
when valuing the products of his own toil, as, for example, 
the arrows which he must laboriously whittle out as a 
means to procuring small game. Besides the utility of 
these arrows there would be in his mind vivid associations 
connected with the cost of making them. In fact until he 
became quite expert with the bow and could tell quite accu- 
rately what an arrow was worth to him in game, he would 
probably value his arrows in accordance with the labor 
they cost him. One arrow would be worth perhaps an 
hour's labor. But an hour's labor, from the point of 
view of the sensations that accompany it, may mean any- 
thing from the pleasurable activity of the first hour after 
a refreshing night's sleep, to the painful drudgery of the 
last hour of the day when all of the faculties are crying 
out for rest. According to which of these standards is the 
importance of an hour's labor gaged? As on inquiring 
before which utility determines value, so now on inquiring 
which disutility of those which stand for the different 
hours of work throughout the day determines cost, we 
must consider what Crusoe would gain if an hour's toil 
were spared him. Obviously, he would gain most by stop- 
ping work an hour earlier. It is the last hour of the day 
that involves most disagreeable effort or that has the great- 



42 VALUE AND PRICE 

est disutility. If an hour is to be cut off from the working 
day it is from this trying last hour that one would wish 
to be relieved. It stands in the mind for the cost of an 
hour's work, and in valuing an arrow according to its cost 
it is to it that Crusoe's thoughts would revert. If we call 
the disutility of this last hour the marginal disutility we 
may say that the value of a good, judged from the point of 
view of cost, is determined by the marginal disutility of 
the labor time necessary to its production. Men who, like 
Robinson Crusoe, produce for themselves the things which 
they consume, may value their possessions either by refer- 
ence to their marginal utilities or to the marginal dis- 
utilities of the labor involved in their production. It is 
hardly necessary to add that in practice the determination 
of the cost of an hour's labor is comparative rather than 
absolute, just as is the determination of the utility of the 
resulting good. 

Since the disutility of each hour's work is compensated 
by the utility of the product resulting from it, the tend- 
ency of the economic man is to continue his labor until 
the disutility it entails is just balanced by the utility it 
affords. Every addition to his labor increases its dis- 
utility, every addition to the product, according to the 
familiar principle, diminishes the utility of single units of 
it. At some point marginal disutility will cease to be 
fully compensated for by marginal utility, and at that 
point work must stop if an economic loss is to be averted. 

26. Marginal Utility and Value in Industrial Society. 
— The valuations of a Crusoe are necessarily crude and 
inaccurate because he has only his own judgment and expe- 
rience to rely upon. In industrial society the valuations 
of each individual are supplemented and corrected by the 
valuations of other individuals. Judgments in regard to 
the importance or marginal utilities of different goods are 
collective or social and for this reason are more precise 
than they can be for men in isolation. 



MARGINAL UTILITY AND VALUE 43 

The simplest case of social valuation is presented in 
connection with a commodity like wheat flour, which serves 
a variety of uses in every household and the want for 
which on the part of the normal family is quite elastic. 
According to the familiar principle of diminishing utility 
each family's consumption of wheat flour may be arranged 
in a scale in which the high utilities of the more important 
units will come first and the low utilities of the less impor- 
tant units last. At the very end will stand the marginal 
utility of the least important unit consumed. As all fam- 
ilies consume numerous units of wheat flour, and as this 
consumption is carried in most families not to the point 
of satiety, but only to the point at which the sacrifice in- 
volved in paying for additional units is not fully compen- 
sated by their utilities, all families value a unit of such 
flour approximately in proportion to its marginal utility 
to themselves. In this case all consumers contribute 
something towards the determination of the social 
valuation upon which depends the relative importance 
of a unit of wheat flour in comparison with units of other 
goods. 

While the consumption of wheat flour is probably not car- 
ried to the point of satiety by most families, the consump- 
tion of many cheaper commodities habitually is. A commod- 
ity like salt, for example, is not an object of painstaking 
economy to the well-to-do, but virtually a free good. Its 
marginal utility to the average family is a negligible quan- 
tity because it is consumed as a matter of course down to 
the point of satiety. The value of such an article is deter- 
mined by its marginal utility not to the well-to-do, but to 
the very poor, to whom even the small price of a bag of 
salt is a burden, and to those who use it in connection with 
industrial purposes (e. g., in the salt-fish industry, in re- 
moving ice from the tracks of street railways, etc.). The 
value ascribed to it in these connections determines its im- 
portance in comparison with other commodities. In the 



44 VALUE AND PRICE 

same class as salt are matches and the other cheap articles 
which are consumed daily by rich and poor alike. Such 
articles are no longer objects of economy to the well-to-do, 
who pay for them what market conditions require and 
would continue to buy the same quantities, that is, all 
they have any possible use for, even if the prices they had 
to pay were doubled or trebled. In such cases values, or 
the comparative importance of units of different goods, 
are determined by the marginal utilities of single units of 
such goods, not to each individual consumer, but to con- 
sumers generally. Well-to-do consumers exert no influence 
because they consume all that they wish without reference 
to what they must pay for such goods. This leaves the 
task of valuation to consumers who are less well off and 
to others who use the articles as materials for further 
production. 

A second characteristic of valuations in industrial so- 
ciety rests on the fact that most goods are not simple 
utilities, but bundles of utilities. A suit of clothes, for 
example, is not merely a protection from cold and damp. 
The modern man pays for this utility in his clothes, but he 
pays much more for the comfort and elegance of the fit, 
the social distinction attaching to the fineness of the 
goods, etc. Since valuation consists in ascribing impor- 
tance to goods in proportion to their marginal utilities, it 
involves as many separate steps as there are separate util- 
ities in the goods to be valued. Social valuation differs 
from that of a Crusoe in that these separate steps are 
taken by different classes in the community. In the case 
of clothes, the well-to-do class which patronizes fashion- 
able tailors takes the warmth and comfort of its gar- 
ments for granted. These utilities are required also by 
the less prosperous classes in the ready-made clothes which 
they buy and are valued by them, or even, as re* 
gards warmth, by the still poorer classes who buy sec- 
ond-hand clothes. The patrons of fashionable tailors give 



VALUATIONS SOCIAL 45 

their thought to deciding as to the marginal utility to 
them of the style of cut and distinction of finish. Perhaps 
the best illustration of this point is presented in the val- 
uation of watches of different grades. Nearly everyone 
wants one fairly accurate pocket timepiece and few have 
use for more than one. The money equivalent of the mar- 
ginal utility of this primary quality in a watch is very 
great to the well-to-do classes, and if the value of this 
quality were fixed by them it would be represented by 
many dollars. But the conditions of production are now 
such that fairly good timekeepers are brought within the 
reach of all. The marginal utility which determines the 
value of this quality is therefore that to people in very 
moderate circumstances. The watches of the well-to-do 
have in addition to this primary requisite, durability, 
beauty, power to give social distinction to their owners, 
extreme accuracy as timekeepers, etc. It is these qualities 
that the well-to-do value according to their marginal 
utilities to themselves rather than the primary quality 
common to all honest watches. The value of a watch is the 
sum of the values assigned to each one of its qualities by 
the classes to which these qualities stand as marginal util- 
ities. As a timepiece it is valued by the people who can 
just afford to have a timepiece, as a durable timepiece it 
is valued by a higher class in the economic scale, as a 
durable timepiece encased in silver it is valued by those 
just able to have silver watches, as a gold-cased watch it 
is valued by people in still better circumstances, etc. In 
each instance the value ascribed to the quality added just 
before is carried over to make a part of the value of the 
watch to which still another quality has been added. The 
value assigned to this last quality is added to the values 
previously determined to make the value of the whole 
watch. Thus the value of any good which is made up of a 
bundle of qualities is the result of a social rather than of 
an individual calculation of marginal utilities. 



46 VALUE AND PRICE 

The three illustrations that have been given are typical 
of the valuations that are made in industrial society. Use 
value is still man's estimate of marginal utility. Not 
every man's estimate, however, determines it, because in 
industrial society the valuations of individuals are influ- 
enced by those of other individuals with whom they come 
in contact. The value of each good depends upon its mar- 
ginal utility to the group of consumers to whom it is an 
object of economy. If it is composite its value is the sum 
of the marginal utilities of its different qualities to the 
groups to which these qualities are objects of economy. 
Value in industrial society is thus the result of social val- 
uation. It is not so much man's estimate, as society's 
estimate of marginal utility. 

27. Marginal Cost and Value in Industrial Society. — 
In the economic calculations of a Crusoe, as we have seen, 
marginal disutility may serve, quite as readily as mar- 
ginal utility, as a gage of the value of reproducible goods. 
Disutility, or cost of production, includes all of the painful 
and disagreeable sensations that men experience in con- 
nection with production. Each such sensation stands for 
a sacrifice and unless the results of production fully com- 
pensate all those who have made sacrifices it has entailed 
loss in well-being. So long as attention is confined to the 
production of a Crusoe the painfulness of prolonged effort 
may stand by itself for these sacrifices, but for industrial 
society with its subdivision of functions a more precise 
analysis is necessary. In addition to the painfulness of 
effort is another sacrifice which we may describe as post- 
poning consumption or waiting. This is involved more 
or less in all branches of production. The workman who 
labors only eight hours a day may not prolong his effort 
to a point where it is painful, but he is sure before the day 
is over to feel that he is making a great sacrifice in contin- 
uing at his bench when he might be out in the street or at 
home with his family. Postponing consumption even until 



COST AND VALUE 47 

the whistle blows is one of his costs of production. But 
under present conditions the postponement required is 
much longer than this. Modern production is indirect or 
roundabout. Materials, tools, machines, etc., are produced 
as aids to the production of consumable goods, and on the 
average a long period of waiting must intervene between 
the first steps in production and its issue in goods which 
are ready for consumption. The postponement of con- 
sumption which this entails is little appreciated by most 
workmen. They experience the painfulness of effort and 
they must perforce abstain from consumption during their 
working hours, but the conditions of their employment, as 
a rule, insure them their wages by the week or the month 
irrespective of the stage of completion of the goods which 
they help to produce; and the conditions of their lives, as 
a rule, cause them to spend these wages for consumable 
goods as soon, or nearly as soon, as they earn them. Post- 
poning consumption so that production may be carried on 
in a roundabout way is the economic service rendered by 
capitalists. It is their wealth which is tied up in the form 
of the tools, machines, buildings, etc., indispensable to effi- 
cient production, and the sacrifices which they make in per- 
mitting their incomes to take these forms rather than the 
form of consumable goods which they could immediately 
enjoy figure among the costs of production along with the 
sacrifices of workmen. 

Nor is the division of the sacrifices connected with pro- 
duction between workmen and capitalists the only compli- 
cation to be considered in an analysis of costs. Produc- 
tion is co-operative and many men unite their efforts to 
effect the creation of even the simplest good. It follows 
that the cost of production of each good is a sum of sac- 
rifices to which many different individuals have contributed. 
Workmen of different grades and different capitalists, 
each contributing only a part of the capital used, have a 
share in it. Moreover, since cost is at bottom a question 



48 VALUE AND PRICE 

of individual feeling, its amount depends quite as much on 
the character and circumstances of the producer as upon 
the productive act which he performs. The most impor- 
tant instance of differences in costs due to differences in the 
situation of producers is in connection with the service of 
postponing consumption, or waiting, rendered by capital- 
ists. Capitalists, as the term is here employed, include all 
sorts and conditions of men from millionaires to dollar-a- 
day laborers. Society values the services they render by 
reference not to the sacrifices that are involved for them 
individually in the accumulation of capital, but to the 
amount of capital they accumulate. The wage-earner's 
meager savings assist production no more and are no more 
important dollar for dollar than the inherited millions of 
the idle rich. Where the same productive services involve 
different degrees of sacrifice for different producers, it is 
the sacrifice to marginal producers, or those whose sacri- 
fice is greatest, that must be counted in the cost of pro- 
duction. This must be compensated by the utility of the 
product or it will not be incurred any more than will an 
uncompensated last hour's labor be performed by an iso- 
lated producer. The calculation of the cost of production 
in industrial society is thus a very complex process, and 
any balancing of marginal cost or disutility against 
marginal utility must be roundabout and difficult of 
analysis. 

The above discussion of the relation between cost and 
value in industrial society is intended rather to suggest 
than to solve difficulties. It touches upon some of the 
most intricate problems of advanced economics and cannot 
be pursued further without the fuller knowledge of indus- 
trial relations which the following chapters attempt to 
supply. 

28. Values in Use, Values in Exchange and Prices. 
— As already explained, the calculations in reference to 
marginal utilities upon which values in use depend are com- 



VALUES AND PRICES 49 

parative rather than absolute. They approach precision 
only when there are a number of different goods to be 
valued and the consumer is given a choice between addi- 
tional units of one or the other of them. In such cases 
marginal utilities must be carefully balanced against one 
another if an unwise selection is to be avoided. The typical 
consumer of industrial society is an individual with numer- 
ous and varied wants having access to markets in which 
numerous and varied goods capable of gratifying these 
wants are offered for sale, but limited in his means so that 
many of his wants must go ungratified. Successive units 
of each particular good offered for sale obey the law of 
diminishing utility. In order to get the largest return 
from the expenditure of his limited means the consumer 
must consider the law of variety. He must not buy an 
additional unit of one good when a unit of some other good 
which may be had at the same, or a lower, price has greater 
utility. In general he should carry his purchases of units 
of different goods which he desires down to the point at 
which the returns in utility for his last units of expenditure 
are approximately the same all along the line. Only under 
these conditions is he getting the largest possible return in 
utility for his expenditures. Economists sometimes speak 
of the marginal utilities of all of the goods which a person 
consumes as determining the location of his margin of con- 
sumption. This margin should be as even as possible to 
insure the maximum return in gratification to the consumer 
with limited means. 

The balancing against one another of the mar- 
ginal utilities of units of different goods is one of the fac- 
tors which determine the ratios at which such units ex- 
change for one another, or exchange values. The practice 
of exchanging goods for money is now so universal that 
exchange values are habitually written with a sum of money 
as an intermediate term. Business men do not compare 
commodities by saying that so much of one exchanges for 



50 VALUE AND PRICE 

so much of the other, but by noting their prices. They do 
not say, for example, that a bushel of wheat is the equiva- 
lent of two bushels of corn, but that the price of wheat is 
one dollar a bushel and of corn fifty cents. In conformity 
with this practice the discussion of the circumstances de- 
termining exchange values which follows is couched in 
terms of prices. 

The first principle in reference to exchange values that 
must be emphasized is that as ratios they can neither rise 
nor fall as a whole. Values in use, determined as they are 
by marginal utilities, may increase, but values in exchange 
cannot. A change in the exchange value of a particular 
good always and necessarily involves complementary 
changes in the exchange values of other goods. For ex- 
ample, if the exchange value of a bushel of wheat increases 
from x to &r, the exchange value of x has diminished from 
one bushel of wheat to one-half a bushel of wheat. Ex- 
change values as a whole cannot be said to have changed 
at all. It is equally important to note that the exchange 
value of any individual good may increase or decrease, and 
that this is as true of money, the good in which prices are 
expressed, as of other goods. When the exchange value of 
money increases prices fall, when it decreases prices rise. 
As prices are the barometer which guides business men in 
all their transactions it is of the greatest importance that 
that commodity should be selected to serve as money which 
is least likely to fluctuate in its exchange value. 

29. The Value of Money. — The value of a unit of 
money, or of a dollar, like the value of anything else, is 
man's estimate of its marginal utility. This is identical 
with the marginal utilities of the goods a dollar will buy. 
Each man has a certain money income to expend and a cer- 
tain scale of wants to gratify. His effort is to get the 
largest possible return for his outlay. To accomplish this 
he must consider the prices of things quite as much as their 
utilities. His first dollar should go for that combination 



THE VALUE OF MONEY 51 

of goods having the greatest utility, his second for a some- 
what less needed combination, and so on, each dollar add- 
ing somewhat less to his store of utilities than its prede- 
cessor. The marginal utilities of the goods purchased with 
his last available dollar measure the value of a dollar. It 
is these goods that the additional dollar adds to his store; 
take the dollar away and it is these goods that he must 
forego. They measure the importance, or value, of a 
single dollar in his scale of living. 

Few people, even among those who regularly spend their 
entire incomes for the gratification of their wants, esti- 
mate the value of a dollar as rigidly as the above analysis 
implies, and yet everyone as a result of his business experi- 
ence has a pretty accurate notion of the value of the 
monetary unit. If parents sometimes complain that their 
children are without such a conception, it is a proof merely 
that conditions have changed since they were young and 
that the value of a dollar to their children is actually less 
than to themselves. In the minds of intelligent men the 
value of a dollar includes not merely the utilities of con- 
sumable goods, but leisure for enjoyment, social esteem 
and influence, the perpetuation of the family name and 
family traditions — everything, in short, which command 
over dollars may secure and which seems to them desirable. 
It is probably true also that some people worship dollars 
in a quite irrational way for their own sake, though misers 
who have no ulterior motive beyond hoarding up money 
are more common in fiction than in real life. 

For convenience of analysis it will be assumed in the 
following chapters that the exchange value of money, that 
is, the quantity of commodities generally which it can com- 
mand in the markets of the country, is invariable. This 
is not quite true in practice, as is fully explained in 
Chapter XVI., but it is so nearly true over short 
periods of time that no serious error is involved in 
the assumption. 



52 VALUE AND PRICE 

30. The Determination of Prices. — The circumstances 
that at last analysis determine the money prices of goods 
and services are exceedingly complex. To understand 
them it is necessary to comprehend every phenomenon of 
economic life. Nevertheless the actual process by which 
money prices are fixed is comparatively simple. Buyers 
and sellers come together each with definite notions as to 
what the prices should be, and the prices finally fixed are 
the result of their bargaining. 

On the side of buyers the following calculations are 
commonly made: (1) They decide in regard to the values 
in use of the different goods offered for sale, and if they 
think of getting more than a single unit of each good they 
consider the values of additional units. In this connec- 
tion, as already explained, marginal utilities are decisive. 
(2) They decide as to the prices that they are willing to 
pay. As regards most of the goods purchased there is 
no hesitation. Experience has taught that at the prices 
at which they may ordinarily be purchased they afford 
the greatest return in gratification to be derived from 
the expenditure necessary to such purchase. Thus the 
normal family purchases flour, sugar and the other staples 
that enter into the consumption of every household as a 
matter of course. Deliberation begins only after these 
necessaries are secured, and the question is how to get the 
largest return for the sum that remains to be expended. 
Buyers vary greatly in the intelligence they show in dis- 
posing of their surplus incomes. Some expend them reg- 
ularly for goods which they do not really want, but which 
attract by their novelty. Less impulsive buyers have in 
mind several different goods which they would like to 
have. These are arranged in their minds in a rough scale 
which enables them to decide promptly which of two goods 
they would prefer at the same price, or whether at differ- 
ent prices the dearer good is worth, in their scale of con- 
sumption, the difference. In all of these calculations the 



THE DETERMINATION OF PRICES 53 

value they ascribe to the monetary unit is quite as impor- 
tant in directing their purchases as the values they ascribe 
to the goods bought. 

The calculations of sellers are usually somewhat more 
precise than those of buyers. (1) They know pretty 
closely how much the goods they have to sell have cost 
them in money, or their expense of production. Since they 
are in business for profit, sellers look upon the expense of 
producing a unit of commodity as a minimum price, less 
than which they cannot afford to take except under un- 
usual circumstances. (2) They have accurate informa- 
tion in regard to the current prices of goods and on the 
basis of this knowledge decide what prices they ought to 
obtain. At this point sellers are influenced by standards 
made for them by market and other social conditions, just 
as buyers are influenced to a certain extent by the stand- 
ards of others in calculating the values in use of different 
goods. 

There are four possible situations in which buyers 
and sellers may come together. The simplest is that in 
which one buyer bargains with one seller to secure a com- 
modity which that seller alone offers for sale. The buyer 
has made up his mind what price he will pay rather than 
not get the commodity, but as an economic man he wishes 
to pay as much less as is consistent with his sense of fair 
dealing. On the seller's side is a definite idea of the lowest 
price he can afford to accept, but his business interest 
calls for the highest price he can get. If the buyer's 
maximum price does not exceed the seller's minimum price 
it is obvious that no exchange can take place. If it does, 
then the market price must lie somewhere between these 
limits. Just where depends upon the relative skill of the 
two parties in bargaining. 

A second and more common situation is that in which 
several buyers bargain with one seller who has a monopoly 
of the good which all the buyers want. This situation 



54 VALUE AND PRICE 

admits of a variety of accompanying circumstances: (1) 
The monopolist seller may have only one unit of the de- 
sired good, as is often the case with dealers in antiques. 
In such a case the buyer who is prepared to pay the highest 
price will get the coveted object at a price between that 
offered by the next highest bidder and his own maximum 
price, unless, indeed, this last is less than the dealer is will- 
ing to accept. How this works out in practice is so fre- 
quently illustrated at auctions that there is no need to 
enlarge upon it. (2) The monopolist seller may have sev- 
eral units of the desired good and these may be incapable 
of reproduction. In this case he may pursue the plan of 
getting as much as he can for each unit as it is sold, as is 
usual at auctions, or of marking each with the highest 
price which he thinks he can get for all of them, as is 
usual with " one-price " dealers in antiques. If he pur- 
sues the first course the result will be similar to that in the 
first case. Each successive unit will go to the competitor 
who was just outbid by the more eager buyer who got the 
one before. In this case the prices received for different 
units will vary widely and if all are sold at one time will 
show a tendency to decline. If the seller pursues the latter 
course and uses good judgment in marking his wares he 
will fix on the price which is just equal to the maximum 
which the buyer whose purchase is necessary to the sale of 
the entire supply is willing to pay, unless, of course, this is 
below the price which he is himself willing to accept, when 
some of the supply must remain on his hands. (3) The 
monopolist seller may have several units of the desired 
good and may be in a position to produce as many more 
units as he considers it profitable to put upon the market. 
This is the common case of monopoly and is so important 
that special chapters are devoted to it. At this point it 
will suffice to lay down the fairly obvious propositions that 
anywhere below the limit fixed by the maximum price 
which the most eager buyer is willing to pay, the monopo- 



COMPETITIVE PRICES 55 

list may fix the price by regulating the supply, and that, 
in so regulating the supply, he will try to fix the price that 
will afford him the largest aggregate monopoly profit over 
and above his expenses of production. 

A third situation is presented when one buyer bargains 
with several competing sellers. Perhaps the most com- 
mon case of this kind is when a single city family goes in 
the summer to live in a country district where all other 
families produce for themselves all of the milk, butter, 
eggs, chickens, etc., which they require. Under such cir- 
cumstances, if competition is permitted to work out its full 
effects, the new family may get the country products it 
requires for the lowest prices the most eager sellers compe- 
tent to supply all its needs are willing to accept. More 
frequently competition is restrained by custom and the 
buyer has a choice between goods of different quality 
rather than between different prices for the same goods. 
This third case of " buyer's monopoly " has resulted at 
times from the formation of the trusts discussed in Chapter 
XXII. When all of the manufacturers who use a partic- 
ular kind of raw material combine, producers of the raw 
material are placed at a great disadvantage in bargain- 
ing. They may be forced to accept a price which is so 
low as to drive all but the most capable of them out of 
business. 

31. The Determination of Competitive Prices The 

last and most common situation is that in which there are 
several buyers and several sellers, among whom more or 
less active competition and bargaining are carried on. In 
highly organized industrial centers this competition shows 
itself more clearly on the side of sellers than upon that of 
buyers, and in fact in most branches of trade sellers have 
adopted the plan of marking prices, leaving it to buyers 
to accept them or reject them as they see fit. This ar- 
rangement does not dispense with buyers' competition as 
an active force in the determination of prices, since this is 



56 VALUE AND PRICE 

one of the chief factors that sellers consider in deciding 
what they shall ask for their wares, but it makes the whole 
process more complicated. 

In order to bring out the various influences at work 
under conditions of two-sided competition, we will exam- 
ine the case of an auction sale in which an auctioneer has 
identical goods, bicycles let us say, belonging to different 
sellers and is instructed to sell as many of them as he can 
at the highest price he can get, each seller naming the min- 
imum price which he is willing to accept for his wheel. 
Assume that there are six wheels and that the sellers' min- 
imum prices are $20, $22, $24, $25, $27 and $30, respect- 
ively. Among the many would-be buyers at the auction 
the six who are prepared to pay the highest prices for 
wheels have in mind as their maximum prices $40, $35, 
$32, $30, $28 and $25, respectively. Each buyer under- 
stands the conditions of the sale, and, as one wheel is like 
another to him, will be inclined to hold back in his bidding 
with a view to buying at a low price. All six of them are 
willing to pay $25, but at this price only four of the 
wheels can be purchased, and fear of not getting any 
wheel at all will lead one of them to bid $26. At this price 
five would be willing to buy, but again only four wheels are 
salable. One buyer must bid more or lose his chance to 
buy, so $27 will be offered. At this price five wheels may 
be sold to the five buyers willing to take them, but if the 
auctioneer is properly mindful of the interests of his cus- 
tomers he will try to get still more. If he succeeds in 
forcing the bid up to $28 there will still be five buyers for 
the five wheels he is authorized to sell. Any price between 
$27 and $28 will effect the sale of his five wheels, and 
since the sixth buyer will pay only $25, while the sixth 
seller will not take less than $30, only five wheels can 
change hands under the given conditions. The price be- 
tween $27 and $28 is therefore the one most satisfactory 
to buyers and sellers as a whole, and the one which com- 



COMPETITIVE PRICES 57 

petition, restrained by the self-interest of competitors, 
tends to establish. 

Artificial though the above illustration is, it comes close 
to representing the forces which determine competitive 
prices generally. Rival sellers do not entrust their goods 
to an auctioneer, but they act jointly very much as he 
acted in the assumed case. Each has a minimum price 
determined by his expenses of production. All wish the 
largest number of sales at the highest attainable price. 
Their inclination as individuals is to put up the price. 
As competitors they tend to lower it to enlarge the vol- 
ume of their sales. When competition is active among a 
number of sellers with varying expenses of production, 
the price tends to be fixed at a point which affords profits 
to several, just pays the expenses of production of others 
and drives others out of business because it does not cover 
their expenses of production. The part which buyers 
play in bringing about this result is by seeking constantly 
for the cheapest market. Their competition is rarely 
actually excited, as it was assumed to be at the bicycle 
auction, but its potential force is indicated to sellers by 
the rapidity with which their goods are sold at the prices 
which they fix. The more attentive buyers are to their 
interests in getting goods at the lowest prices, the more 
likely are sellers to meet price-reductions promptly, so that 
there will be substantially one price for each particular 
good at any one time throughout the whole market. The 
price will be lower than many buyers stood willing to pay, 
it will just about suit the ideas of others, while still others 
will find it too high. 

In stating that two-sided competition will tend to estab- 
lish one uniform price instead of a variety of prices for 
identical units of the goods sold, we are simply describing 
a fact of common observation in highly organized markets. 
Experience has taught both buyers and sellers the advan- 
tage of agreeing upon the one price at which a maximum 



58 VALUE AND PRICE 

number of sales may be effected, and all the machinery of 
competition, published price lists, clearly marked prices 
on goods offered for sale, etc., is designed to bring this 
about. Only in communities in a backward condition in- 
dustrially, as in Italy for example, do any large number 
of sellers at retail continue to make the determination of 
the price at which each good shall be sold a matter for a 
special bargain. The time that is wasted in useless hig- 
gling when this plan is followed is convincing proof of the 
superiority of the one-price system. In the wholesale trade 
special bargains between the wholesale dealer and his 
customers are more common and skill in bargaining is an 
important requisite to success. The price limits within 
which such bargaining is confined are, however, narrow, 
as the wholesaler is always restrained in individual trans- 
actions from making too great concessions by the fear 
that he may alienate his other customers. 

Generalizing on what has been said, we may conclude 
that two-sided competition and bargaining among buyers 
and sellers tend to establish one price or a narrow range 
of prices for each good and that this corresponds to the 
money equivalent of the marginal utility of the good to 
the buyer who is just induced to buy and to the expense 
of production of the seller whose supply is necessary, along 
with the supplies of sellers who produce more cheaply, to 
satisfy the demand of the market. 

32. Market Prices and Normal Prices. — A review of 
the four possible modes of price formation that have been 
described leads to the conclusion that the money equiva- 
lents of the marginal utilities of the goods offered for sale 
to those whom we may style the marginal buyers, that is, 
the buyers who are just induced to buy, always have an 
important influence on prices. Who the marginal buyers 
shall be, depends in turn always on the supplies of goods 
that are sold. In case there is only a limited number of 
units of a good in existence or its production is controlled 



MARKET AND NORMAL PRICES 59 

by a monopoly, the supply is absolutely or arbitrarily 
fixed, and the price to be obtained for such supply may be 
said to be determined by what the marginal buyers will 
pay. In the more common case of freely reproducible 
goods prices correspond on the buyers' side to what the 
marginal buyers will pay, on the sellers' side to what the 
marginal sellers are willing to accept. Over short periods 
marginal sellers may be willing to accept whatever prices 
market conditions enable them to obtain. Market prices 
are, therefore, fluctuating prices rising and falling from 
day to day or even from hour to hour. Over long periods, 
however, marginal sellers cannot afford to accept less than 
will cover their expenses of production. This fact leads 
economists to recognize that behind fluctuating market 
prices are normal prices, corresponding to the expenses 
of production of marginal sellers. These are the stand- 
ards about which market prices tend to fluctuate. 

Before attempting to define more precisely normal prices 
or to analyze the elements that enter into the expenses of 
production of marginal sellers, we shall find it advan- 
tageous to study the subject of production itself. For it 
is only after the whole circle of production, distribution 
and consumption has been traversed that all of the ele- 
ments that enter into the determination of values and 
prices can be understood. 



REFERENCES FOR COLLATERAL READING 

* Seligman, Principles of Economics, Part III., Book I.; * Clark, 
Essentials of Economic Theory, Chaps. VI. and VII.; * Bullock, Se- 
lected Readings in Economics, Chap. XIII.; * Fetter, Principles of 
Economics, Chap. V.; * Carver, Distribution of Wealth, Chap. I.; 
* Marshall, Principles of Economics, Book V. ; * Pierson, Principles of 
Economics, Part I., Chap. I.; Smart, Introduction to the Theory of 
Value; * Bohm-Bawerk, Positive Theory of Capital, Book III, 



CHAPTER IV 
PRODUCTION: LAND AND NATURAL FORCES 

33. Definition of Production. — Production has already 
been defined as the creation of utilities. That man can- 
not create matter is a familiar truth. All that he can do 
is to rearrange particles of matter so as to create form 
utilities; or move goods from one part of the world to 
another so as to create place utilities ; or preserve goods 
from one period to another so as to create time utilities; 
or, finally, transfer goods from the ownership of one indi- 
vidual to that of another so as to create possession utilities. 
Any activity which contributes to the creation of utilities 
in either of these ways is production. 

A school of French economists of the eighteenth century, 
the Physiocrats, gave currency to the belief that agri- 
culture is productive in a special and peculiar sense. They 
even went so far as to characterize manufacturing and 
mercantile pursuits as sterile, or unproductive. Adam 
Smith, writing in 1776, took vigorous exception to this 
view, but he, too, speaks of nature as " laboring along 
with man " in farming, implying that it does not " labor 
along with " him also in his other occupations. Completer 
knowledge of the real nature of production has emanci- 
pated most minds from these misconceptions. They re- 
appear from time to time, however, in criticisms of the 
activity of merchants, who are said to create nothing, but 
to live, like parasites, by buying things for less and selling 
them for more than they are worth. The obvious reply 
to such attacks is that merchants create time, place and 
possession utilities and that human well-being depends as 

60 



THE FACTORS IN PRODUCTION 61 

much upon these as upon the form utilities created by 
farmers and manufacturers. Convincing proof of the 
value of the services of merchants is furnished to city 
people when they go to live in the country in the summer 
and have to depend for the goods they require upon a dis- 
tant and ill-stocked country store. The growing preva- 
lence among country people of the practice of coming to 
town to do their shopping indicates, on the other hand, 
their practical appreciation of what the merchant does for 
the community. 

34. Nature and Man the Factors in Production. — As 
already implied, there are two essential factors in all pro- 
ductive processes : nature and man. Nature figures in 
production as an aggregate of materials and blind forces. 
Acting in conformity with invariable laws, she destroys as 
readily as she creates. Moreover, her productive services 
are always gratuitous to him who has the intelligence to 
command them. Man, on the contrary, appears as a being 
with conscious purpose. He also destroys — not ruthlessly, 
however, as nature seems to do, but in order to gratify his 
wants. In production man is the directing, active agent, 
nature the obedient, passive agency. Man marshals the 
materials and productive forces which nature supplies in 
the ways that experience has taught him to be best, and he 
alone enjoys the fruits of productive enterprise. 

Man and nature are the primary factors in production ; 
secondary or derived from them is capital, the products of 
past industry used as aids to further production. With 
the abundant evidence on every side of the dominant role 
which power machinery and other forms of capital play 
in production as now carried on there is little need to em- 
phasize the importance of this third factor. To capital 
is chiefly due the efficiency of contemporary productive 
methods, as contrasted with those of one hundred and fifty 
years ago, and also the division of the working population 
into employers and employees. These truths are so fa- 



62 LAND AND NATURAL FORCES 

miliar to everyone that it is not so much the importance 
of capital as the fact that it is not an independent but a 
derivative factor in production that requires emphasis. 

35. The Productive Services of Land. — As the term is 
commonly used in economics, " land " designates the sur- 
face of the earth and the materials above and beneath it. 
It thus includes bodies of water and what they contain. 
The principal ways in which land, in this sense, assists in 
production may be enumerated as follows: (1) It affords 
support for man and the buildings, etc., he erects upon it ; 
(£) its extension permits the movement of men and goods 
from place to place; (3) its geographical features, moun- 
tains, valleys, rivers, bays, etc., aid in many ways; (4) it 
supplies the materials, mineral, vegetable and animal, from 
which all commodities are made; (5) each portion of it 
enjoys its share of summer's heat and winter's cold, air, 
sunshine and rain, without which no form of life could long 
continue on the earth. Properly speaking some of these 
endowments of land, such as heat and sunlight, are forces 
rather than materials. The principal other natural forces 
which aid in production, as at present carried on, are the 
force of gravity, the vital forces that cause the growth of 
plants and animals, the expansive force of steam, electrical 
force and the explosive power of gases. 

Land and natural forces have been available for human 
use for one hundred thousand years or more, but only in 
recent times has man begun to appreciate and utilize them 
at all fully. His early discoveries of fire and its uses, of 
methods of navigating by water and of the metals, and his 
first domestication of animals and cultivation of plants, 
followed one another at long intervals and were the results, 
there is reason to suppose, of happy accident rather than 
of deliberate study and experiment. Only in the last two 
centuries has systematic progress been made in the task 
of understanding nature and directing her forces toward 
human ends. The results already achieved in analyzing 



CHARACTERISTICS OF LAND 63 

materials into their elements and gaging accurately their 
importance for different uses, in generating and control- 
ling steam and electricity and in finding new employments 
for these and other natural forces, seem to justify ex- 
tremely optimistic anticipations in regard to the future of 
the race upon the earth. They have served in large measure 
to shift the attention of economists from the problems of 
production, which seem in process of such happy solution, 
to the problems of distribution, which become more rather 
than less complex as general wealth increases. There is 
the more excuse for this shifting of interest because differ- 
ent phases of production are beginning to be dealt with 
in special treatises. " Economic geography " is a de- 
scription of the part which land and natural forces play 
in production. " Economic geology " treats more espe- 
cially of rocks and minerals in relation to human well- 
being. Similarly, treatises on agriculture, on mining and 
on different kinds of manufacturing, describe the technique 
of modern production in its different branches. It re- 
mains for a treatise on economics merely to call attention 
to the more general aspects of the part that nature plays 
in production. 

36. Different Characteristics of Different Pieces of 
Land. — It is a familiar fact that different areas of land 
are unequally fitted to aid production in the ways that 
have been described. Most obvious are differences in geo- 
graphical features. There is but one New York Harbor 
on the American continent, and its superiority in all essen- 
tial respects to other harbors causes every square foot ad- 
jacent to it to be eagerly utilized in the promotion of a 
vast commerce. Similarly, there is but one source of 
water power like that supplied by the Niagara River and 
there are no other fresh water courses comparable with the 
Great Lakes and the Mississippi and its tributaries. 
Though less unique other geographical features are impor- 
tant and influence in large measure the forms of industrial 



64 LAND AND NATURAL FORCES 

activity that flourish in the regions in which they are 
found. Differences in mineral resources are quite as 
marked. Geological changes, most of which antedated the 
appearance of man upon the earth, deposited beds of iron 
ore in one locality, strata of coal in another, veins of gold 
and silver, copper and lead in still others and in others 
layers of barren rock. The influence which these mineral 
deposits exert on the kinds of industry that are to be car- 
ried on in different sections and on their prosperity is too 
familiar to be dwelt upon. Differences in soil, climate, 
rainfall and the other conditions affecting agriculture are 
equally in evidence and play their part in shaping a 
nation's industries. 

Although most of the characteristics of different pieces 
of land are, economically speaking, unalterable, others 
admit of considerable modification. However admirable a 
harbor may be as fashioned by nature it can nearly always 
be improved by man. Important as were the Great Lakes 
as a natural water course their usefulness has been much 
increased by the construction of the Erie, Welland and 
Sault Ste. Marie canals. Even more marked are the 
changes which man may make in preparing the soil for 
agricultural use. Besides clearing land from forests and 
from stones and draining off surplus water, he can often 
change comparatively poor to very good soil by means of 
fertilizers. As the English economist, Professor Marshall, 
has suggested, the various qualities that fit a piece of land 
for the cultivation of a particular crop or series of crops 
may be compared to the links of a chain, and as the 
strength of a chain depends upon that of its weakest link, 
so the fertility of a piece of land depends upon the quality 
in respect to which it is most deficient. In the same way 
that the strength of a chain may sometimes be increased 
many fold by repairing an imperfect link, so land may 
often be raised to a much higher plane in the scale of fer- 
tility, if its one serious defect is remedied. 



EXPENSES OF PRODUCTION 65 

In new countries where land is abundant and labor and 
capital are scarce and dear, the tendency is to rely mainly 
on the natural qualities of different soils and to make little 
use of fertilizers. As a country becomes more populous 
and land is in greater demand, fertilizers are more freely 
used and the tendency is for each piece of land to be sup- 
plied artificially with the qualities in which nature has left 
it deficient. In this way continuous cultivation tends to 
obliterate the differences which originally distinguished 
different soils in the same general region and to raise them 
toward one uniform standard of excellence. This makes it 
difficult, if not impossible, in an old country to determine 
to what extent the fertile properties of a given piece of 
land are due to nature and to what extent to man. In the 
United States it is probably still true of agricultural land 
that it owes the principal characteristics that fit it for pro- 
duction to nature. This is even more the case, of course, 
with its mineral and forest lands. 

37. Differences in Expenses of Production Due to Dif- 
ferences among Different Pieces of Land. — If attention 
be confined to some particular product, such as iron, coal, 
wheat, corn or wool, and a study be made of the conditions 
under which it is produced in a country like the United 
States, it will be found that some of the supply comes from 
areas where the natural conditions are very favorable to 
such production, that other portions come from areas 
where the natural conditions are less favorable and still 
others from areas so situated that the production is barely 
profitable. To illustrate by reference to iron : some of the 
ore is of such richness and is so easily mined that each 
year's output affords a profit to mine owners and oper- 
ators so large that in a short time it amounts to a princely 
fortune. Other ore is less rich and mined under greater dif- 
ficulties, but still pays a handsome profit over all the ex- 
penses of its production. Still other ore barely repays the 
expense entailed in putting it on the market. It may be, 



66 LAND AND NATURAL FORCES 

and often is, the case in mining that still other ore is 
taken out of the ground and sold at an actual loss to 
those engaged in the business, the loss being made good for 
a time out of the capital of such business men in the hope 
that the ore will improve with depth, or that it will com- 
mand a higher price, or that something will occur to make 
the enterprise a success. In addition to this poorest ore 
mined there are known to be vast bodies of ore of even in- 
ferior grades which might be mined and would be mined 
if market conditions were to change so as to make it prof- 
itable. In iron mining and other branches of mining there 
are thus different producers incurring quite different ex- 
penses of production, ranging from those whose expenses 
are low to those whose expenses are barely covered or even 
not quite covered by the price. The more fortunate re- 
ceive in the current price a considerable margin over their 
expenses of production, which is to be explained, econom- 
ically, as due to the superior natural resources which they 
exploit. 

A similar situation is found in farming and may be 
illustrated by reference to the cultivation of wheat. The 
expense entailed in producing wheat on the bonanza wheat 
farms of the Dakotas, even including the transportation 
charge to the distant market, is very considerably less than 
the expense of producing wheat for the same market in 
Michigan, owing to differences in the favorableness of soil 
and climate in the two sections. Some wheat farmers real- 
ize regularly year after year a considerable margin above 
the expenses of production in the current price, others 
realize a smaller margin, others barely pay expenses, while, 
in some years, still others incur a loss and have cause to 
regret that they did not devote their land to some other 
use. In addition to the land used for wheat there is still 
other land that is even poorer for this purpose, but that 
could and would be used to swell the country's wheat crop 
in case market conditions changed so as to make this prof- 



THE LAW OF DIMINISHING RETURNS 67 

itable. In wheat farming and ether branches of farming 
there are thus considerable differences in the expenses of 
production incurred by different farmers, and since all 
obtain approximately the same prices for the same prod- 
ucts in the central market, allowing of course for varia- 
tions in quality, these differences cause some to reap large 
profits, some to reap smaller profits, some to just meet their 
expenses and some, perhaps, actually to lose on the year's 
industry. Here again superior natural advantages are 
the source of the higher profits which some realize. 

An exactly similar situation is encountered in branches 
of manufacturing which utilize water power, the supply of 
which is limited. Those who control superior sources of 
water power obtain their power more cheaply than their 
competitors using inferior power. So long as all manu- 
facturers sell their products for the same market prices, 
those controlling the superior powers must reap an extra 
profit traceable to this natural superiority. 

From these typical illustrations it appears that land and 
natural forces assist different producers for the same 
market unequally. Since they all receive approximately the 
same prices and since these must be high enough to cover 
the expenses of production of the men who produce at the 
greatest disadvantage, but whose supplies are necessary to 
satisfy the demand of the market, those producing under 
more favorable conditions must reap a profit due to these 
conditions. This special form of profit, which in the ag- 
gregate represents an important share of the wealth annu- 
ally produced, is known in economics as rent and will 
receive further consideration in the chapter on that topic. 

38. The Law of Diminishing Returns. — But, it may be 
asked, if nature assists production so unequally in different 
localities, why is not the whole supply of each particular 
commodity produced in that one spot which is best adapted 
for the purpose? The answer to this question suggests 
an important economic principle. All of the iron ore 



68 LAND AND NATURAL FORCES 

needed in the United States is not produced from the rich- 
est iron mine, because that mine does not contain enough 
ore to satisfy a hundredth part of the demand. All of the 
wheat required is not produced from that one acre best 
suited to wheat culture, because it could not produce a 
millionth part of the wheat needed. Equally inadequate 
is the water power even of Niagara to generate the force 
needed to keep all of the manufacturing machinery in the 
country in motion. 

In practice, as is well known, it does not pay to extract 
all the ore from even the richest mine at too rapid a rate, 
nor to cultivate too carefully even the best acre of land, 
nor to utilize too fully even the finest water power. In 
each of these cases the producers encounter what is known 
in economics as the law of diminishing returns. Briefly 
stated this law is that after a certain point has been passed 
in the cultivation of an acre of land or the exploitation of 
a mine, increased applications of labor and capital yield 
less than proportionate returns in product, it being under- 
stood, of course, that no important change is made in the 
method of cultivation or exploitation. To illustrate by 
reference to wheat farming: a given acre of land may be 
cultivated in numberless different ways, each more elabo- 
rate than the preceding and each giving rise in a normal 
year to a somewhat larger crop. It may be plowed 
once, twice, three or even four times, and each plowing 
will add somewhat to its preparedness to receive the seed. 
It may be harrowed correspondingly. The use of fertil- 
izers familiar in the region offers a wide range of possible 
variation, each having some perceptible effect on the year's 
crop. While the crop is maturing a great number of dif- 
ferent precautions may be taken to protect it from the rav- 
ages of birds, insects, storms, etc. It may be irrigated, or 
great pains may be taken to drain off quickly an excess of 
rainfall. It may even, as is said to have been tried on the 
Island of Guernsey, be covered with glass. In these and 



THE LAW OF DIMINISHING RETURNS 69 

hundreds of other ways labor and capital may be applied 
without exhausting the productive capabilities of the land. 
Some of these possible improvements in the method of cul- 
tivation beyond the roughest scratching over of the soil 
may, and usually will, yield more than proportionate re- 
turns in the wheat crop, but after a certain point has been 
passed all experience confirms the law that further im- 
provements afford less than proportionate returns. Unless 
this were true, indeed, there would be little occasion for 
dividing up rural families and sending some of the sons to 
take up new land. Every additional hand on the old farm 
would add his proportion to the joint produce and a farm 
of a hundred acres would support a score of families as 
well as one. 

To give precision to the statement of the law of dimin- 
ishing returns it is customary to distinguish between the 
" extensive " and the " intensive " margins of cultivation. 
If, for example, the demand for wheat increases so as to 
induce the production of a larger crop, the additional sup- 
ply may come from either or both of two sources. Wheat 
farmers in the settled portions of the country may make 
their farming more intensive, that is, apply more labor and 
capital to the cultivation of each acre and in this way 
add to their crops. Others may be induced to take up new 
land and prepare it hastily for extensive farming. If both 
results follow the prospect of a somewhat higher price for 
wheat, as they would if farmers were always alert to their 
own interests and able to adapt their methods promptly to 
changing market conditions, there will be two situations in 
which the expenses of producing wheat are just covered 
by the price. The wheat grown on the poorest land hastily 
plowed and planted, or on the extensive margin of culti- 
vation, will barely repay the expenses of production. So 
also will the additional wheat raised by the application of 
additional labor and capital at the intensive margin of 
cultivation. The producer at either margin may in such 



70 LAND AND NATURAL FORCES 

a case be properly described as the marginal producer 
whose expenses of production are just covered by the price 
of the product. The fact that his additional wheat just 
about pays for itself will not, of course, prevent the farmer 
at the intensive margin from realizing a rent from that 
wheat which he continues to produce at smaller propor- 
tionate expense. 

39. Differences between Different Pieces of Land Due 
to Social Causes. — In the preceding sections the natural 
differences between different pieces of land have been dis- 
cussed as though they alone determined the importance of 
land to man. That this is far from being the case is illus- 
trated on every hand. Each year sees large tracts of land 
in the United States enhanced in value simply because of 
changes in market conditions or improvements in the means 
of transporting products to the market. To some extent 
the growth of markets is itself determined by natural con- 
ditions, but it will be simpler to regard it as the result of 
social changes. In fact natural and social influences act 
and react upon the value of land in such a complex way 
that it is vain to try to separate them. A few illustra- 
tions will suffice to put in its true light the importance of 
the social factor. 

China and the United States are said by geologists to 
be about equally endowed with coal and iron resources. 
Nevertheless, while the coal and iron mines of the United 
States are worth thousands of millions of dollars, the de- 
posits of China are of little value. This is obviously not 
because China is a new or sparsely peopled land. It is 
entirely because the " age of steel " has not yet dawned 
there, or is only just beginning to dawn. Another one 
hundred years may see the coal and iron resources of 
China as highly valued as are those of the United States 
to-day. Such a change will be due to social influences, the 
natural advantages of the two countries having undergone 
no alteration. 



DIFFERENCES DUE TO SOCIAL CAUSES 71 

A similar contrast is presented when agricultural land 
on the outskirts of a city and equally fertile land hundreds 
of miles away from any market are compared. The city 
market gives high value to the suburban tract. It is 
cultivated intensively and affords a high rent to the owner. 
On the other hand, the remote acres, if cultivated at all, 
will repay only a minimum expenditure of labor and cap- 
ital. In place of the garden produce raised on the sub- 
urban farm, the isolated farmer must raise some staple 
crop, like wheat or cotton, which can be transported 
cheaply and with slight deterioration to the far-off mar- 
ket. Here again social influences make suburban land val- 
uable and remote ranch-land of little worth. 

A still more striking contrast is presented by a compari- 
son of city real estate, priced by the square foot, with 
agricultural land, priced by the acre. Next to man's need 
for food and clothing comes his need for shelter or for a 
house. Food and clothing may be produced at great dis- 
tances and brought to him from day to day in the small 
quantities that he requires. A house must be available in 
its entirety all the time, and it must not be so far away 
from his place of business as to make his daily trips back 
and forth unduly irksome. This accounts for the fact 
that when land begins to be thought of for building pur- 
poses its importance is at once greatly enhanced in human 
estimation. The more concentrated the activities of a city 
and the larger its population, the greater will be the de- 
mand for each piece of land favorably situated for build- 
ing. Thus as a place changes from a country four-cor- 
ners to a village, then to a town and then to a city, the 
values of building sites within its limits tend to rise, 
although with many fluctuations as regards particular 
quarters, and the rents which their utilization affords to 
increase correspondingly. The invention of the bicycle, 
the trolley-car and other conveniences for passing quickly 
and easily from one's place of business to one's house may 



72 LAND AND NATURAL FORCES 

check this tendency somewhat, and, if these improvements 
follow one another rapidly, may check it entirely or set up 
a counter tendency, but during the last quarter of a cen- 
tury the increase in the value of city real estate and of the 
rents that such property affords have been phenomena com- 
mon to all civilized countries. How far this may go in par- 
ticular instances is illustrated by the fact that a lot sold 
in the heart of London recently for a price which would 
make an acre of unimproved land in that locality worth 
$2,300,000. In some sections of New York City land is 
equally valuable. In these cases also the increased value 
and correspondingly enlarged annual return are ascribable 
to social influences. 

Generalizing on these illustrations, we may conclude that 
differences in situation in respect to markets and other 
social conditions are quite as influential as natural differ- 
ences in determining the importance of different pieces of 
land and the rents they afford. When these social condi- 
tions are created by the forethought, enterprise and labor 
of some particular individual or group of individuals, as 
when, for example, a suburb is deliberately planned and 
brought into being by a syndicate of real-estate operators, 
we have a case similar to that presented by the modifica- 
tion of the character of agricultural land by drainage or 
fertilization, in which it is very difficult to distinguish 
man's purposive share in the result from the share of an 
unconsciously evolving community. These difficulties re- 
ceive fuller consideration in the chapters on Distribution. 



REFERENCES FOR COLLATERAL READING 

* Seligman, Principles of Economics, Chap. XX. ; * Bullock, Se- 
lected Readings in Economics, Chaps. I. and IV.; * Marshall, Prin- 
ciples of Economics, Book IV., Chaps I., II. and III.; Walker, 
Political Economy, Part II., Chap. I., and * Land and Its Rent; 
Nicholson, Principles of Political Economy, Vol. I., Book I., Chaps. 
II. and IV. 



CHAPTER V 
PRODUCTION: LABOR AND CAPITAL 

40. Labor as a Factor in Production. — Of co-equal im- 
portance with nature as a factor in production is man. 
His contribution to the productive result depends partly 
upon his capacity as an individual and partly upon 
the way in which his efforts are applied, that is, whether 
to direct or to capitalistic processes of production, 
or whether independently or in co-operation with the or- 
ganized efforts of others. Each one of these circum- 
stances merits separate consideration. 

The principal qualities which determine an individual's 
capacity as a producer are the following: (1) health, 
(2) physical strength and endurance, (3) intelligence, 
(4) judgment, (5) ambition, (6) energy, (7) persever- 
ance, (8) imagination, (9) mechanical ingenuity and 
(10) technical knowledge. The importance of health and 
physical strength, especially to those doing manual work, 
is obvious. Intelligence and judgment are important ad- 
juncts to the man with pick and shovel; they are indis- 
pensable to men in the higher grades of industry. Ambi- 
tion, energy and perseverance are qualities that charac- 
terize all the world's greatest men, and without which 
other qualities are of little value. Imagination is impor- 
tant because to it are traceable all great inventions and 
discoveries. Mechanical ingenuity, though less important 
to the mass of men than formerly, when fewer tasks were 
performed by automatic machinery, is still a valuable qual- 
ity. Technical knowledge, on the other hand, gains each 
year in importance as the ways of doing things that are 

73 



74 LABOR AND CAPITAL 

found to be most efficient increase in complexity. It is evi- 
dent that the importance of these different qualities de- 
pends upon the kind of work to be done and that industrial 
progress tends to lessen the importance of some while it 
increases, that of others. 

41. Qualities Determining the Productive Efficiency 
of Workers. — The above qualities, like other human char- 
acteristics, are either inherited or acquired. Whatever 
their origin in special cases the same general conditions, 
acting either on successive generations or on living men, 
account for their presence. A few words will serve to 
suggest what these conditions are. 

The circumstances influencing health and strength are 
well understood. Fresh air and exercise, good food, ade- 
quate protection from dampness and sudden changes in 
temperature and the avoidance of all kinds of excesses, are 
the principal requisites. Of these good food is perhaps 
the most important. The human body resembles a ma- 
chine, and the amount of work it can do depends very 
largely on the quality and quantity of the fuel, that is, 
the food, with which it is supplied. At the present time 
vigorous measures are being taken in all progressive coun- 
tries to provide the requisites to health and strength for 
all classes. Sanitation and factory acts have been passed 
to insure the healthfulness of the conditions under which 
men work. A great deal of attention is being given, espe- 
cially in those countries which maintain large standing 
armies, to the question of determining what diets are best 
for people doing different kinds of work, and model kitchens 
are being organized in the poorer quarters of cities to 
teach people to appreciate nutritious and properly pre- 
pared foods. Efforts to improve the tenement houses in 
which the populations of the larger cities live are also be- 
ing put forth and with some success. Mention should also 
be made of the public baths, the playgrounds for children 
and the open-air gymnasiums which are being erected in 



QUALITIES MAKING FOR EFFICIENCY 75 

those cities in Europe and America which are most pro- 
gressive in caring for their inhabitants. Finally, it would 
be difficult to exaggerate the importance of the efforts that 
are just now being made to stamp out two of the most 
devastating diseases from which the human race has suf- 
fered, yellow fever and consumption. As is shown by 
mortality statistics, these efforts are beginning to bear 
fruit in the improved health of present-day city popula- 
tions, but much yet remains to be done for both city and 
country people. There is no form of philanthropic activ- 
ity which is more certain to benefit mankind than that de- 
signed to improve the conditions under which the mass of 
men live and work. Restored health and vigor are bless- 
ings in themselves, but equally important is the fact that 
they make for more efficient production and enable their 
possessors not only to hold what they have gained, but 
to add steadily to their advantages through their in- 
creased earning power. Every improvement that can be 
made in home and factory surroundings without under- 
mining the independence and self-respect of the popula- 
tion is thus a certain means of " helping people to help 
themselves." 

The development of intelligence and judgment depends 
largely upon education, and here too undoubted progress 
has been made. In place of the formal and traditional 
methods that have prevailed in the schools, methods having 
direct reference to the organic development of children 
are beginning to be introduced. Moreover, the propor- 
tion of children who go to school is on the increase, and 
the expenditures that modern states make for public edu- 
cation are growing. Nevertheless there is still much to 
criticize in current educational practices and in the short- 
sightedness of democratic states in not contributing even 
more liberally to the support of education. In it lies the 
hope of the future, since through its agency the standards 
of each generation of children are elevated. These higher 



76 LABOR AND CAPITAL 

standards may be passed on to the next generation of 
children to be raised still further in the schools, and so 
the process may be repeated with steady progress as its 
necessary consequence. If improving educational advan- 
tages are added to steadily improving home surroundings, 
the advance of the race cannot fail to be rapid. 

Ambition, energy and perseverance depend partly upon 
a people's range of wants in comparison with the means to 
their gratification, and partly on the probability which the 
situation presents that effort and enterprise will be 
crowned with success. These qualities are conspicu- 
ously lacking among a people which has developed 
few wants and whose means of livelihood are so lim- 
ited by natural and social conditions that even the 
greatest efforts cannot result in a large command 
over economic goods. They are as conspicuously present 
among a people with numerous and varied wants to which 
are open a great variety of promising ways of acquiring 
wealth. This contrast is well illustrated by the difference 
between the peasantry of Europe and the plain people of 
America. Poverty of resources and the restrictions of a 
class organization of society tend to stifle the ambitions of 
the former as markedly as wealth of resources and absence 
of rigid class barriers tend to stimulate those of the latter. 
The most desirable situation for the fostering of these 
qualities is evidently one in which different scales of 
living prevail side by side and in which at the same 
time equality of opportunity is preserved. The dan- 
ger in a country like the United States is that an aris- 
tocracy of wealth may grow up to monopolize the easiest 
means of acquiring further wealth and to hold the mass 
of the people down to working for mere wages. Under 
such circumstances different scales of living would foster 
not ambition but merely envy and bitterness in the minds 
of those who have little prospect of improving their con- 
dition. This danger must be kept in view in connection 



QUALITIES MAKING FOR EFFICIENCY 77 

with the question of limitations that it may be desirable 
to impose upon monopolies and the rights of property. 

The conditions favorable to the growth of imagination, 
mechanical ingenuity and technical knowledge call for no 
extended discussion. Imagination is still little under- 
stood. It seems to be fostered by variety of surroundings 
and experiences, and by attention to unsolved problems 
which contain an element of mystery. Perhaps the most 
that is to be hoped for from present educational methods 
is that they will permit some part of the imagination which 
seems to be natural to childhood and youth to be carried 
on into manhood. Manual training, to which more and 
more attention is being given in the United States and 
abroad, is, of course, directly productive of mechanical 
ingenuity. The greatest progress made in connection 
with any of the enumerated qualities is to be found 
in the field of technical knowledge. Technical schools, 
courses in colleges and universities, correspondence and 
evening classes and journals unite to bring the knowledge 
necessary to efficient production within the reach of all. 
In addition to these admirable facilities for disseminating 
knowledge already acquired, more and more attention is 
being devoted to the acquisition of new knowledge. Every 
State in the United States has at least one privately or 
publicly endowed university intended to encourage scien- 
tific research. To supplement these are the national in- 
stitutions dedicated exclusively to research work, the 
Smithsonian and the recently founded Carnegie Institute. 
Moreover, many individuals are devoting their lives and 
their fortunes to experiments directed towards discovering 
improved methods of gratifying human wants. Taking 
all of these things into account we may predict with con- 
fidence continued progress in the technique of production. 

Co-operating with the conditions favorable to the devel- 
opment of individual capacity that have been enumerated 
are the silent forces of evolution. Although interfered 



78 LABOR AND CAPITAL 

with by the growth of benevolent instincts and agencies 
which intervene to preserve many of the unfit from de- 
struction, these forces aid powerfully in the process by 
which each people surrounded by a favorable environment 
becomes fitted to make fullest use of that environment. 
Weak and incapable lines of heredity are cut off in each 
generation and the field is left to the stronger and more 
capable. In prosperous communities the weeding-out 
process affects not merely the underdeveloped and under- 
fed, but the overdeveloped and overfed. Dissipation is 
as common a cause of premature death and failure to 
continue the line of heredity as starvation. Evolution 
thus operates not only to enable each succeeding genera- 
tion to get a larger return for its efforts, but to educate 
it to a wiser use of its material advantages. The surviv- 
ing type of successful man is less and less self-indulgent 
and more and more philanthropic in his instincts and hab- 
its as generation follows generation. From this it results 
that progress itself causes more and more attention to be 
devoted to the conditions leading to progress and hence 
tends to be a cumulative process. 

42. Capitalistic Production. — Given a certain standard 
of individual capacity on the part of a laboring population, 
its productiveness depends next upon the extent to which 
its methods are capitalistic. By capitalistic production is 
meant production which attains its ends, not by the direct 
and immediate creation of consumable goods, but indirectly 
through the creation first of tools, machines and other 
material aids to production and the creation subsequently, 
with the help of these capital goods, of the consumable 
goods desired. Capitalistic production is thus round- 
about instead of direct, and involves a longer interval of 
time between its inception and its completion. It can be 
adopted only by men who are willing to forego immediate 
gratifications and to permit their incomes to assume the in- 
termediate form of capital goods so that in the end a 



CAPITALISTIC PRODUCTION 79 

larger output of consumable goods may result. Such 
conduct involves abstinence from present consumption, 
saving income or productive powers instead of using them 
to minister to immediate consumption and waiting until 
the longer productive process shall be completed. " Ab- 
stinence," as the term is here employed, denotes simply not 
doing something that ordinarily it would be pleasant to do. 
It need not necessarily involve any element of pain or sacri- 
fice, because the purpose accomplished through it may be 
even pleasanter than the things abstained from. Usually, 
however, abstaining from present consumption does in- 
volve some sacrifice for the psychological reason already 
explained (Section 14). 

The superiority of capitalistic over direct production 
and the reasons for it will appear clearly from a few illus- 
trations. One of the most urgent needs of a pioneer in a 
new country is for fresh water. Having found a spring 
he may gratify this need by scooping up the water with 
his hands. This will be direct production. Or he may 
make a cup in which he can dip up, by stooping once, all 
of the water he can drink. Such a cup will be a capital 
good and the process will be capitalistic production. It 
will multiply largely the return resulting from the effort 
of stooping. Or he may fashion a larger vessel in addi- 
tion to his cup with which he can dip up at one time all 
of the water he requires for a whole day. This will be 
more highly capitalistic production. Or, finally, if the 
spring happens to be at a higher level than his cabin, he 
may construct a trough of hollowed logs capable of con- 
ducting the water from its source to his very door. This 
will be much more highly capitalistic production than 
either of the other processes, and its return will be corre- 
spondingly larger. The force of gravity will now relieve 
him entirely of the task of carrying the water, and all that 
he will need to do to secure an abundant supply will be to 
keep his trough in repair. 



80 LABOR AND CAPITAL 

These illustrations are typical of the advantages of 
capitalistic production. It enables man to apply his own 
efforts more effectively, as when he uses tools or imple- 
ments, or to command the assistance of natural forces 
which without the aid of capital goods would be beyond 
his control. The forces of gravity, steam and electricity 
can be utilized effectively only in connection with the forms 
of capital appropriate to them. For these reasons a 
given expenditure of effort in capitalistic production is 
usually more fruitful of results than the same expenditure 
in direct production, and, the more highly capitalistic 
or prolonged the process, the larger, generally, the return 
in consumable goods for each unit of effort expended. 

43. The Different Kinds of Capital — Business men are 
in the habit of speaking not of " capital goods," but of 
" capital." By this they mean sometimes capital goods 
themselves, but more often these goods measured in terms 
of money. Capital goods wear out and need to be re- 
placed. Individually they come into being, are used and 
are then discarded. But capital, as the business man 
thinks of it, is more permanent. It is the complex of 
capital goods, used in connection with each branch of 
production, measured in terms of money. To the extent 
that prices are stable and that the efficiency of produc- 
tion is maintained, the money equivalent of this complex of 
capital goods changes little if at all. Each year's inven- 
tory shows about the same aggregate, although each year 
the particular capital goods embraced in the inventory 
are different from those of the year before. 

In comparing different methods of capitalistic produc- 
tion two factors must be considered: the average amount 
of capital required for each process and the average time 
that elapses in each case before this capital is completely 
used up or converted into consumable goods. For exam- 
ple, compare two branches of manufacturing in one of 
which the entire equipment of capital goods has to be 



THE LAW OF DIMINISHING RETURNS 81 

renewed on an average once a year, while in the other the 
equipment requires renewal only once every two years. If 
each factory requires exactly the same amount of capital 
from day to day the first will require for continuous pro- 
duction twice as large a replacement fund as the second 
because its capital goods wear out twice as fast. Econo- 
mists give precision to the contrast indicated in this illus- 
tration by distinguishing between fixed and circulating 
capital goods. Fixed goods are those which endure for 
some little time without replacement. Circulating goods 
are those, like coal, which are destroyed in a single use. 
It is obvious that these are relative terms and that cap- 
ital goods present all possible gradations of fixity. 

Capital goods differ also in the extent to which they are 
specialized or free, or in their mobility. Raw materials 
such as coal, iron, etc., are as a rule very mobile. They 
may be devoted at will to any one of a dozen different pro- 
ductive uses. On the other hand, machines, buildings, etc., 
are highly specialized and either cannot be diverted to any 
other use than that for which they were originally de- 
signed or not without a great loss in value. Permanent 
improvements in land are of course quite immobile and 
an unwise creation of this type of capital goods may result 
in complete loss without possibility of recovery. 

44. The Law of Diminishing Returns for Labor and 
Capital. — In discussing the part which land and natural 
forces play in production it was pointed out that after a 
certain point has been passed in their utilization, they 
yield diminishing returns to human industry. A similar 
law of diminishing returns applies to the other factors in 
production, labor and capital. To understand the oper- 
ation of this law in its simplest form, consider the situa- 
tion of colonists in a new country where land of the best 
quality is superabundant, but both labor and capital are 
scarce. Under these circumstances land will be practi- 
cally free to anyone who will cultivate it. The colonists 



82 LABOR AND CAPITAL 

will first supply themselves with those forms of capital 
that are most urgently required — building and agricul- 
tural tools and implements of different sorts, boats, nets, 
guns, etc. For a time new implements of these various 
kinds will be so important as aids to further production 
that no law of diminishing returns will manifest itself. 
If the working population remains stationary, however, 
and it continues to add to its equipment of capital goods, 
without altering in any important respect its methods of 
production, after a certain point has been passed addi- 
tional capital goods will add less than proportionate re- 
turns to the combined products of land, labor and capital. 
This is merely another way of saying that after each 
worker has a fairly complete equipment of tools and im- 
plements, duplicate tools of some sorts and more refined 
implements of others will add to the product less in pro- 
portion to their cost than did the tools and implements first 
acquired. If tools and implements continued to be added 
to the equipment of our assumed colony and there was 
still no important change in methods of production, a 
point would obviously be reached at length where every 
worker would have every aid to efficient production which 
he could possibly use and additional capital goods would 
render no service whatever to production. In actual life 
the law of diminishing returns is never likely to be pressed 
to this extreme limit, because in practice the supply of 
capital will probably never be increased to the point at 
which every worker has all the capital goods that can be 
utilized in connection with his labor and because increasing 
capital itself brings about the changes in methods of pro- 
duction, such as the substitution of power machines for 
hand tools, that are assumed to be absent. The fixed 
force of workers in the assumed industrial colony is analo- 
gous to a limited supply of land. In each case the addi- 
tion of successive increments of capital adds to the size 
of the product, but, after a certain point has been passed, 



METHODS OF ACCUMULATING CAPITAL 85 

the addition is only at a diminishing rate. The inven- 
tion of new and more efficient forms of capital goods 
may postpone the period when the law of diminishing re- 
turns will begin to operate as regards either land or labor, 
but this in no wise lessens its importance as one of the far- 
reaching tendencies of which economics must take account. 

That the same law applies to capital becomes evident 
when it is considered what would result if its supply were 
fixed while successive additions were being made to the 
working population. With every increase in the number 
of workmen, it would be necessary to utilize the available 
tools, machines, etc., more intensively. For a time this 
might be done without any tendency toward diminishing 
returns, but this could not be the case indefinitely. Sooner 
or later, as bare-handed workmen continued to be added, 
the fixed fund of capital would show diminishing returns 
just as did the fixed labor force when the conditions were 
reversed. 

Diminishing returns must after a time result from either 
situation because of the general principle that the most 
effective co-operation between labor and capital is only 
realized when they stand in the right quantitative relation 
to each other. If after this relation has been established 
capital goods increase while the number of workmen re- 
mains fixed, or workmen increase while capital goods re- 
main unchanged, the co-operation between them must be 
rendered less effective. If both factors increase together 
there will be no occasion for any reduction in the return 
so long as new land equal in quality to the old is available. 
It is therefore not the increase in the expanding factor 
alone that causes the diminution, but that increase coupled 
with the lack of response on the part of the other factor. 

45. Methods of Accumulating Capital. — The only 
method by which an isolated producer can acquire new 
capital is by applying his own efforts to its creation. He 
must produce it as well as save it. In industrial society 



84 LABOR AND CAPITAL 

the production of capital goods is effected like the pro- 
duction of consumable goods usually through the agency 
of business managers who produce for the market. The 
" saving " which inspires this production is performed 
by a different set of people conveniently designated as cap- 
italists. A few illustrations will serve to show how the 
savings of capitalists help to bring capital goods into 
existence : 

( 1 ) A farmer who wishes to enlarge his barn saves part 
of the money he receives for his crop and uses it to buy 
lumber and to hire masons and carpenters to make the 
desired improvement. In this case by buying lumber he 
encourages the production of more lumber, or virtually 
hires lumbermen, sawmill hands, etc., to produce this kind 
of capital good, just as he subsequently hires men to 
convert it into a new wing to his barn. He turns over to 
others his command over society's wealth, which they use 
to gratify their wants. In return he receives the addi- 
tion to his barn, a new capital good added to society's pro- 
ductive equipment. 

(2) Very often the farmer who wants a larger barn 
is unwilling or unable to save enough to pay for it himself. 
If he is a man of enterprise he is not likely to be deterred 
by this circumstance from taking steps to obtain it. Hav- 
ing a valuable farm to pledge as security, he is in a favor- 
able position to borrow. He may apply to a well-to-do 
neighbor who has saved the money needed out of his in- 
come and is looking for a chance to invest it. In this case 
the neighbor does the saving and thereby makes possible 
the building of the addition; the farmer decides how the 
saved income shall be invested in a concrete form of cap- 
ital, taking all the risk of the venture and insuring the 
lender against loss by pledging, or mortgaging, his farm. 
The actual creation of the addition results as before from 
the labor of woodchoppers, mill hands and carpenters, 
who are paid for their services as they render them. 



METHODS OF ACCUMULATING CAPITAL 85 

(3) Instead of applying to a neighbor the modern 
farmer who wishes to borrow money is more likely to apply 
to a bank, an institution which receives on deposit indi- 
vidual savings and lends them, together with its own capi- 
tal and credit, to customers. In this third and most typ- 
ical case, the saving of income is performed by the depos- 
itors of the bank, who know nothing about the ultimate 
disposition of their savings. The lending is performed 
by trained men who give much of their time and thought 
to this business, the bank officers, and the investing or con- 
version of the purchasing power into capital goods is done 
as before by the farmer. 

In these ways and in others too similar to require sep- 
arate description the accumulation of capital goods results 
from saving. Not all saving, however, leads to an in- 
crease of capital. The deposits in a bank may be loaned 
to someone who wishes to spend them for consumable 
goods. In such a case, what depositors abstain from 
spending, borrowers spend, and the community's stock of 
capital remains as it was before. In order to cause an 
increase in capital, saving must be supplemented by in- 
vesting, unless, indeed, it takes the form of hoarding, 
which is unusual in modern communities. 

In the above illustrations " money " or " income " is 
spoken of as the thing " saved." Money is, of course, 
merely the medium by means of which control over one 
kind of wealth which the individual does not want is ex- 
changed for control over another kind which he does want. 
What is really saved in every case is the capital goods 
themselves which are brought into existence directly or 
indirectly by the investment. Thus in the examples given 
the addition to the barn is saved and added to society's 
capital equipment. 

Often investment is thought of, especially in cities, as 
buying real estate, or stocks or bonds. Such purchases 
are investments from the point of view of the individual, 



86 LABOR AND CAPITAL 

but to the community as a whole they represent simply 
transfers of ownership over capital goods already in ex- 
istence. The investment proper appears when the pur- 
chasing power exchanged for stocks or bonds is used for 
the development of some new or for the better equipment 
of some old enterprise. Just as money deposited in a bank 
may fail to lead to any net addition to capital, so money 
invested in stocks or bonds may finally be spent by the 
previous owners of these securities for consumable goods 
and leave no trace behind. 

46. Different Varieties of Capital Goods. — Capital 
goods have been defined as products of past industry used 
in the present, as means, not to the direct gratification of 
wants (consumption goods), but to further production. 
They include all the intermediate products which figure in 
roundabout or capitalistic production. The principal 
varieties of capital goods are: 

(1) Permanent improvements in the physical environ- 
ment, in the form of drainage systems, canal excavations, 
tunnels, roadbeds, etc. 

(2) Buildings of all kinds except those serving no in- 
dustrial purpose. 

(3) The rolling stock of railways, vehicles of all kinds, 
etc., not used merely for pleasure. 

(4) Tools and machinery. 

(5) Farm and draft animals. 

(6) Seed, raw materials and partially finished goods in 
process of production. 

(7) Finished goods in the hands of dealers. 

(8) Money. 

In connection with " permanent improvements " a diffi- 
culty is encountered that has caused no little confusion. 
Land as a gift of nature is not regarded as a capital 
good. But permanent improvements in land become for 
practical purposes portions of the land itself. Thus in 
old countries most land is partly a gift of nature and 



VARIETIES OF CAPITAL GOODS 87 

partly a capital good and it is often impossible to dis- 
tinguish between the two. A simple way out of this dif- 
ficulty is to describe land also as a capital good, and this 
is done by the business community and by some economists. 
To the writer simplicity so secured seems bought at too 
high a price, since it involves a disregard of the distinc- 
tion, believed to be fundamental, between man's part in 
production and nature's part. A better plan seems to 
be to accept the difficulty as inevitable and to recognize 
that in distinguishing between what is and what is not 
capital, economists have the same sort of task as confronts 
biologists in distinguishing between what is animal and 
what is vegetable. As regards most things classification 
in both instances is easy. 

Along the same line is the temptation to include as cap- 
ital goods, skill and training that have been acquired as 
the result of " investments in education." From one point 
of view such acquired aptitudes for production should be 
included. Their origin, so far as motives are concerned, 
is similar to that of other capital goods. Moreover, like 
other capital goods they are aids to further production. 
Yet economists generally decide against such inclusion 
because they deem it important to distinguish sharply 
between man and the material aids he uses in production. 
On the whole it seems best to adhere, in the present treatise, 
to this plan of classification. 

Objection is sometimes made to the inclusion of " fin- 
ished goods in the hands of dealers " in the list of capital 
goods. But this follows logically from the principle 
(which has already been defended) that trade is a branch 
of production. An important requisite to the efficiency 
of production is a regular and continuous ministering 
to the wants of consumers. Most economic goods must 
be forthcoming regularly from day to day or at particular 
periods in order to possess high utility. To secure this 
result the business organization of society must provide, 



88 LABOR AND CAPITAL 

first, for the carrying over of stocks of goods, such as 
agricultural products that mature only periodically but 
that are needed continuously, and, second, for the carrying 
of sufficient supplies of goods that mature continuously, 
to insure a continuous stream of commodities from pro- 
ducers to consumers, no matter how far they may be re- 
moved from one another. Thus wheat production is effi- 
cient in proportion to the care with which the crop har- 
vested during the summer months is handled so as to meet 
the community's need for bread during the entire year^. 
All of -the conveniences, such as elevators, warehouses, etc^ 
which contribute to this end, as well as the stored wheat 
itself, are capital goods. In the same way if it takes, on 
the average, thirty days to transport bananas from the 
growers in Central America to consumers in American 
cities it is indispensable to the efficient production of this 
fruit that a stock equal at least to thirty days' consump- 
tion be kept regularly in transit either in the warehouses 
of shippers, on the ocean, in the warehouses of wholesale 
dealers or ripening in the shops of retail vendors. Such 
a stock is a part of the community's capital goods. 

The last kind of capital good enumerated, " money," is 
too important to be dismissed with a few words and is 
therefore treated in separate chapters. 

47. Capitalistic Production a Modern Phenomenon. 
— The development of capitalistic production to anything 
like its present proportions is of comparatively recent 
date. During the Middle Ages the capital goods used 
were so few and crude that each producer supplied him- 
self with his needed equipment without great difficulty. 
Instead of commanding interest the accumulated wealth 
of the rich had often to be stored and a fee paid for its 
safe-keeping. 

As commerce developed there was an increasing demand 
for capital in the form of vessels and goods with which to 
stock them, and merchants, like Antonio in Tlie Merchant 



CAPITALISTIC PRODUCTION MODERN 89 

of Venice, were often able to turn their accumulations to 
very profitable account. The use of tools and machinery 
in agriculture and manufacturing made little advance, 
however, before the period of the industrial revolution. 
During all these centuries the chief service of saving with 
a view to the future was in connection with the preserva- 
tion of flocks and herds and the husbanding of the food 
supply and seed from one harvest to the next and from 
years of abundance to the lean years that were sure sooner 
or later to follow. 

Since the beginning of the last century capitalistic pro- 
duction has advanced in the Western World by leaps and 
bounds. In place of simple hand tools and foot- and horse- 
power machines, complex machines driven by water, steam, 
electrical or gas power have come into use. These have been 
multiplied so rapidly that the average capital equipment 
of the modern producer is easily a hundredfold larger than 
that of the medieval workman. Enormous investments 
have been made also in improved transportation facilities 
and in buildings for the safe housing of machinery, oper- 
atives and goods. As a result of this progress in capital- 
istic production and of the parallel discovery and inven- 
tion of new and more efficient kinds of capital goods, the 
productiveness of human industry has been immensely in- 
creased. A large part of this increased return goes as 
interest to those who allow their wealth to remain in the 
form of capital in preference to converting it into con- 
sumable goods for the gratification of their immediate 
wants. The part that remains as the wages of labor has 
also grown, however, so all classes have derived material 
benefit from the change. 

Since capitalistic processes add so largely to the pro- 
ductiveness of industry, the development of thrift, or a 
willingness to forego present gratifications for the sake 
of the future, is an important condition to progress. 
What is most needed is not a general development of 



90 LABOR AND CAPITAL 

thrift, for many individuals are already inclined to carry 
saving to the point of parsimony, but a development of it, 
or of the prudence and forethought on which it depends, 
among the working classes. Accustomed for generations 
to live from hand to mouth, wage-earners are only just 
beginning to appreciate how much the accumulation of 
property may contribute to their well-being. Its prin- 
cipal advantage for them, individually, is that it will serve 
to carry them over periods of unemployment without that 
loss in efficiency that is the most pitiful result of enforced 
idleness for men who have nothing to fall back upon. 
For the whole community the aggregate savings of a 
thrifty laboring population would cause a great increase 
in its equipment of capital goods, and a corresponding 
improvement in its industrial processes. On both accounts 
the development of providence and forethought among the 
masses is earnestly to be desired. Equally important are 
improvements in the conditions of wage-earners which will 
encourage them to save by rendering spending up to the 
full limit of their incomes less imperatively necessary. 



REFERENCES FOR COLLATERAL READING 

* Seligman, Principles of Economics, Chap. XXI.; * Clark, Essen- 
tials of Economic Theory, Chaps. XI. and XVIII.; * Carver, Dis- 
tribution of Wealth, Chap. II.; * Bullock, Selected Readings in Eco- 
nomics, Chap. XL; * Marshall, Principles of Economics, Book IV., 
Chaps. VII., VIII. and IX.; * Bohm-Bawerk, The Positive Theory 
of Capital, Books I. and II.; * Pierson, Principles of Economics, 
Vol. I, Part L, Chap. IV. 



CHAPTER VI 

PRODUCTION: CO-OPERATION AND BUSINESS 
ORGANIZATION 

48. The Importance of Co-operation of Workmen in 
Production. — Important as is an individual's capacity as a 
condition determining his productive efficiency, the way in 
which he co-operates with his fellows is even more essential. 
Alone, a man can do little more than keep himself alive even 
in the most favorable environment. Working in co-opera- 
tion with others he so multiplies the results of his toil that 
he can provide himself with comforts and luxuries as well as 
with necessaries. 

Three varieties of co-operation may be distinguished: 
(1) Simple co-operation, that is, the simple working to- 
gether of several for the attainment of a common purpose, 
as when several unite to move a stone or raise a mast. (2) 
The division of employments, by which each gives his 
entire time to some one branch of production, such as 
farming, boat-building or shoe-making, and exchanges his 
products for the products of others. This is commonly 
described as the simple division of labor. It is an indirect 
form of co-operation in that in realizing it men work to- 
gether not at the same but at different tasks, expecting to 
share their unlike products by means of exchange. (3) 
The subdivision of tasks in each employment, as when in 
shoemaking one makes the soles, another the uppers, an- 
other combines them, etc. This may be conveniently 
designated as the complex division of labor and is the char- 
acteristic of the factory system. As co-operation it also is 
indirect. 

91 



92 BUSINESS ORGANIZATION 

Progress in indirect co-operation, or the division of 
labor, depends upon the development of markets and other 
facilities for exchange. For example, a man cannot be a 
shoemaker unless shoes are in demand by people willing and 
able to pay for them. Much less can a shoe factory be 
organized, with its elaborate subdivision of tasks and large 
output, unless shoes can be sold at remunerative prices. 
From this it may be inferred that every improvement tend- 
ing to widen the market for goods is favorable to a further 
extension of the division of labor. The truth of this con- 
clusion is abundantly illustrated by the history of the last 
one hundred years. 

Before the era of steam vessels and steam railways the 
market for most products was restricted by the high cost 
of transportation to limited areas near the source of sup- 
ply. Each region, had to produce for itself its bulkier food 
articles, building materials and implements, and could im- 
port from or export to other regions only those products 
which were light and costly. Under these circumstances 
the division of labor could be little practised. Country 
districts afforded employment to a blacksmith, a carpenter 
and a few other specialists. A few cities grew up where 
those goods which could pay the relatively high costs of 
transportation were manufactured. But the majority of 
the people were forced by the conditions to give their atten- 
tion to agriculture as the only means by which they could 
earn a living. Steam and, more recently, electrical trans- 
portation have changed this situation. At present the cost 
of carriage offers no insurmountable obstacle to the ship- 
ment of even cheap and bulky articles, such as wheat and 
coal, half-way round the world. For most goods, in place of 
a merely local market, there are now general markets rang- 
ing in magnitude from the market afforded by a large city 
to that of the whole world. Perishable goods, services and 
goods for which there is only a local demand, must still be 
produced on a small scale to satisfy local requirements, but 



QUALITIES NECESSARY TO CO-OPERATION 93 

the proportion of these goods to the whole mass of products 
is constantly diminishing. Even fruit and fresh meat have 
ceased to be perishable in the sense that they will not bear 
transportation to distant markets. Accompanying this 
widening of markets there has been a concentration of 
special industries in special localities and of business man- 
agement in fewer and fewer hands. In this way full ad- 
vantage has been taken of opportunities for extending the 
division of labor, with the result that the volume of goods 
produced has been enormously increased. 

49. Qualities Necessary to Effective Co-operation. — 
Capacity to co-operate depends upon certain well-defined 
qualities as much as does individual capacity to produce. 
Of these qualities the principal are: (1) honesty, (2) r 
steadiness, (3) a spirit of conciliation, (4) ready obedience 
to superiors and (5) organizing ability. The first four 
are necessary to the mass of men and will be considered 
here, the last is necessary chiefly to those who assume the 
task of industrial leadership and will be considered in a 
subsequent section. 

Honesty is indispensable to mutual trust, and co-opera- 
tion cannot be carried far unless men trust one another. 
Steadiness is necessary, because without it a complex 
division of labor would be wasteful rather than economical. 
When tasks are subdivided the performance of each suc- 
cessive one depends upon the performance of the preceding. 
Unless all or nearly all the workmen in a factory are pres- 
ent at the same hours each day the whole process is dis- 
turbed. A spirit of conciliation is necessary because work- 
ing together involves being together, and this entails con- 
stant friction unless each is willing to make concessions. 
Finally, ready obedience to superiors is essential to the suc- 
cess of a complex division of labor, because this involves 
planning by one set of people and execution by another. 

These qualities are fostered by the very division of labor 
to which they are necessary. In other words, those peoples 



94 BUSINESS ORGANIZATION 

who have been accustomed to the division of labor longest 
have them most highly developed, while those who have only 
known isolated production are usually lacking in some if not 
in all of them. From this it results that the introduction of 
a division of labor into a new region is particularly diffi- 
cult, while its extension after it has once been established 
becomes increasingly easy. The disciplinary value of a 
complex division of labor is clearly shown by the contrast 
between an industrial and an agricultural population. The 
former is steadier and more social, while the latter is more 
independent and self-reliant. 

50. The Advantages of Co-operation. — The three forms 
of co-operation that have been described assist production 
in a variety of ways, of which the principal are as follows : 

(1) Men working together, as in the building of the 
pyramids, can do things which men working singly could 
not possibly do. 

(2) By simplifying the work of each man, a division of 
labor shortens the time needed to master a trade. In place 
of the seven years' apprenticeship once necessary, modern 
methods of production call for but a few months' special 
training for most positions. 

(3) The division of labor offers a varied field for indus- 
trial activity and thus enables each man with special apti- 
tude or talent to devote his entire time to the work for 
which he is best fitted. 

(4) By reducing the labor of each man to a few simple 
motions the complex division of labor is favorable to the 
acquisition of great dexterity. Hand and eye come to act 
almost automatically and with a quickness and accuracy 
unattainable by a man constantly varying his task. f 

(5) The same simplification and concentration of effort 
are favorable to the progress of invention. When work is 
so subdivided that each hand makes but two or three simple 
motions, the time is ripe for the invention of a machine 
to take the place of labor. Thus the goal towards which the 



DISADVANTAGES OF CO-OPERATION 95 

division of labor is ever tending is the invention of labor- 
saving machinery. 

(6) Co-operation permits the most economical use of 
land and natural forces. Each section may be devoted to 
the production of that particular good for which it is best 
fitted just as each man may devote his time to his chosen 
specialty. This is called the territorial division of labor 
and is increasingly important as improvements are made 
in methods of transporting goods from the place of pro- 
duction to that of consumption. 

51. The Disadvantages of Co-operation. — Against 
these advantages of co-operation must be weighed one 
decided disadvantage. Specialization is narrowing. If it 
requires a man to work long hours with his muscles it is 
likely to cut him off from opportunities to develop his mind. 
On the other hand, if it limits him to an intellectual pur- 
suit it is likely to deprive him of the vigorous exercise 
needed by his muscular system. Specialization is inimical 
to that all-round development of character and capacity 
which is the natural consequence of varied interests and 
varied pursuits. Carried to excess it unfits men for the 
enjoyment of that very wealth which it helps them in such 
large measure to secure. 

In giving full weight to this disadvantage it must not be 
overlooked that co-operation, especially as it is developed 
in connection with the factory system, serves to bring spe- 
cialists together and give them the benefit of that social in- 
tercourse which the isolated producer so sadly misses. Those 
who work in factories describe the social aspects of their 
labor as in large measure compensating them for the 
monotony of their simple tasks. If increased leisure could 
be added to the interchange of ideas which the factory 
permits, the evils of specialization would be reduced to a 
minimum. 

52. Illustrations of the Advantages of Co-operation 

It is not easy to show in a statistical way how much the 



96 BUSINESS ORGANIZATION 

world owes to progress in co-operation and the division of 
labor. An important incident of this progress has been, as 
already suggested, the invention of machinery to take the 
place of specialized workers, and in those cases where the 
division of labor has been carried furthest machinery now 
plays such a large part that it is impossible to decide what 
share of the productive results should be credited, his- 
torically, to each. One of the best ways to get an im- 
pression of the industrial results of the division of labor 
is to compare the work of a hand shoemaker, which may 
still be observed in many parts of the United States, with 
that performed in a well-organized shoe factory. Accord- 
ing to an investigation made by the United States Bureau 
of Labor, the number of distinct processes into which the 
manufacture of men's brogan shoes is now divided is 
eighty-four. Many of these are performed by automatic 
machines. It is calculated that the McKay machine for 
attaching the soles of shoes to the uppers turns out in one 
hour and thirty-eight minutes one hundred pairs, which it 
would take ninety-eight hours to sew, and twenty-five hours 
even to peg, by hand. From 1885 to 1895 the efficiency 
of labor is said to have been multiplied five-fold in the shoe 
industry in the United States through the introduction of a 
division of labor and of improved machinery. 

In Adam Smith's day the best illustration of the division 
of labor that came under his observation was that used in 
the manufacture of pins. He showed that through the 
division of labor the average product of pins to each hand 
employed in a pin factory was 5000 per day and contrasted 
this with the one crude pin a day which a single artisan 
might perhaps turn out if he had to do the whole work 
by himself. At present pins are manufactured by auto- 
matic machinery and 1,200,000 per workman per day is 
said to be the output of a well-equipped factory. The 
progress in screw making is even more remarkable. Ac- 
cording to estimates made by the Bureau of Labor 10,000 



THE FUNCTION OF THE ENTREPRENEUR 97 

screws are now made by an expenditure of 16.7 minutes of 
human labor in comparison with 1250 hours formerly re- 
quired to produce the same number. 

Similar examples of progress due partly to the division 
of labor and partly to the introduction of labor-saving 
machinery might be multiplied for every branch of manu- 
facturing. The subject has been exhaustively treated in a 
special report issued by the Bureau of Labor * and this 
may be consulted for other striking illustrations of im- 
provement. On the whole it is not too much to say that 
the efficiency of labor in manufacturing has been increased 
many hundredfold by the abandonment of isolated produc- 
tion and hand processes in favor of the division of labor 
and machinery. In other branches of production progress 
has been less remarkable for the simple reason that they are 
less well adapted to these improvements. 

53. Business Organization and the Function of the 
Entrepreneur. — Business organization has been carried to 
such a point in modern communities that few persons now 
produce for themselves the things that they require. Even 
in country districts the typical farmer is no longer the 
pioneer raising food and materials for his family, but the 
producer for the market who looks to the market for most 
of the things that he needs. We have called this develop- 
ment " progress in co-operation," but it is evident that the 
resulting co-operation is not deliberately planned by those 
who participate in it. It arises spontaneously as each one 
follows his own interest without thought of his neighbor. 
As a country district emerges from the pioneer stage, 
different men discover that it pays them better to be spe- 
cialists and to produce for the market than to produce for 
themselves. Thus a simple division of labor is introduced 
to supplement the simple co-operation that prevails even 
among animals. The complex division of labor follows in 
due course because of its superior effectiveness, and in this 
* Report of 1898 on Hand and Machine Labor. 



98 BUSINESS ORGANIZATION 

way, as time goes on, co-operative production displaces 
isolated and individual production.* 

The success of industrial co-operation depends in large 
measure upon the ability of business managers or entrepre- 
neurs. These are the men who act as directors of indus- 
trial undertakings. They decide what shall be produced 
and how it shall be produced. They hire workmen and 
determine what they shall do. They borrow money and 
convert it into particular forms of capital goods or ex- 
change it for land. Finally, they assume the risks of the 
businesses in which they are engaged, undertaking to pay 
wages, interest and rent whether or not the results are 
satisfactory. 

The qualities needed by an entrepreneur are not unlike 
those required by a military leader. He must have energy 
and enterprise. He must be a good judge of men and of 
conditions. He must have confidence in himself and be 
able to inspire confidence and a feeling of loyalty in others. 
Above all he must have organizing ability, that is, the 
faculty of combining men and things in the most effective 
way for the realization of a desired result. A community 
that is well supplied with leaders having these qualities is 
sure to have its industrial forces turned to good account. 
Its workmen will be assigned the special tasks for which 
they are best fitted so far as conditions permit, and its 
capital will take the form of the capital goods that are 
found to be most efficient. Invention and discovery will 
be highly appreciated and progress in the technique of 
production will be rapid. Even a few capable entrepre- 
neurs may secure these important results for a community. 
They serve the public not only by organizing efficiently 
the special branches of industry which they direct, but by 
setting standards which less able men are only too glad to 

* To distinguish this spontaneous or competitive co-operation from 
the copartnership of workmen in the management of industrial 
enterprises, to which the term " co-operation " is frequently applied, 
the latter is referred to in this book as " labor copartnership." 



FORMS OF BUSINESS ORGANIZATION 99 

copy. Thus it is not uncommon in the United States to 
find whole towns which are literally " run " by one or two 
men. The same men acting in combination are coming 
more and more to control the important industries of the 
country, and this gives them an influence for good or evil 
that can scarcely be exaggerated. The greater the power 
of these directors of the community's industries, the greater 
the importance that must be ascribed to personal qualities 
in determining the direction of industrial development. 
This importance of personality as a factor in modern busi- 
ness was strikingly illustrated in the spring of 1900 when 
several English investors took out insurance policies on the 
life of America's leading financier, to protect themselves 
in case the latter's death intervened to prevent the consum- 
mation of certain gigantic financial projects of which he 
was the originator and guiding spirit. 

54. Different Forms of Business Organization. — The 
simplest form of business organization is that in which a 
single entrepreneur controls the whole enterprise. He 
may do everything for himself and use only his own capital, 
as do usually doctors, lawyers, cobblers, etc., or he may 
employ hired workmen and borrowed capital. In the 
United States many businesses employing thousands of 
men and using millions of capital have grown up under 
the responsible management of single individuals. The ad- 
vantages of such a one-man organization are obvious. Its 
disadvantages are that one man, however able, cannot be 
equally competent to direct all departments of a large and 
complex business and that the capital that one man can 
command is small in comparison with that which may be 
secured by a number of men associated together. 

These disadvantages are partially overcome in a second 
form of business organization, the partnership. A part- 
nership is an association of two or more individuals who 
are jointly and severally responsible for the management 
of the enterprise in which they are embarked. On forming 



100 BUSINESS ORGANIZATION 

a partnership the partners become individually liable for 
all of the obligations of the firm and agree that any con- 
tract entered into by either partner in the firm's name shall 
be binding on all. This form of organization is well fitted 
for businesses calling for a diversity of talents and requir- 
ing no more capital than a small number of men may com- 
mand. Until the last fifty years it was the common form 
of organization for businesses that had outgrown indi- 
vidual control. Recently it has given way quite largely 
to the corporation, the third important form of business 
organization. 

A corporation is an association of individuals known as 
stockholders who are empowered by legal charter to elect 
annually a board of directors and through it to act as one 
person in the conduct of the specified business. Corpora- 
tions enjoy, usually, perpetual life. They may sue or be 
sued, incur debts, enter into contracts — in short, do every- 
thing necessary to the conduct of business, within the 
limits prescribed by their charters of incorporation, as 
though they were individuals. The liability of the stock- 
holders in corporations is limited usually in the United 
States to the capital actually paid in or pledged in re- 
turn for stock. Sometimes, as in the case of the national 
banks, stockholders are further liable for a sum equal to the 
par value of the stock they own, but this liability is never 
unlimited as is that of legally constituted partners.* 

55. Advantages and Disadvantages of the Corporate 
Form of Organization. — The advantages of the corpora- 
tion for business purposes are: (1) It continues even 
though its promoters die or retire from business. (2) It 
draws its capital in large or small quantities from widely 

* Limited-liability partnerships are not included in the above de- 
scription because they have become an unusual type. In the United 
States each state and territory exercises the privilege of incorporat- 
ing companies and prescribing the regulations with which they 
must comply. The description given applies to the ordinary business 
corporation. 



ADVANTAGES OF CORPORATIONS 101 

different sources and may command any amount, however 
great, for an enterprise in which investors have confidence. 
(3) It may profit by the intermittent attention of di- 
rectors whose ability and experience make their services 
of the greatest value, but who could not be induced to 
assume the risks incidental to partnerships. (4) It is flex- 
ible, permitting a complete change of management when- 
ever the stockholders deem this expedient, through the 
simple process of an election at an annual meeting. 

These considerations and others of less importance have 
caused the corporate form of organization to be adopted 
for a great variety of enterprises. It is probably within 
the truth to say that one-half of the business of the United 
States is now controlled by corporations and there is every 
indication that the proportion is increasing. This makes 
important the recognition of certain drawbacks attaching 
to the corporate form of organization. Chief among these 
is the fact that responsibility for the management of cor- 
porations is diffused. In one-man businesses and partner- 
ships the men who organize and manage an enterprise are 
the ones most vitally interested in its success. In corpora- 
tions the stockholders, who usually furnish all or the 
greater part of the capital required and have to bear 
the loss if things go wrong, entrust their interests to the 
board of directors. The board of directors in turn de- 
putes the actual management of the business to a salaried 
president or manager who may not, and often does not, have 
any further interest in the business than that his reputation 
depends upon the honesty and wisdom with which he man- 
ages it. The entrepreneur function is thus divided in the 
corporation between three parties no one of whom has the 
same vital interest in the business that the single entrepre- 
neur or partner feels in businesses conducted on the other 
plans. Moreover, few directors or managers have not, at 
times, private interests in conflict with the corporate inter- 
ests they are supposed to promote. This diffusion of re- 



102 BUSINESS ORGANIZATION 

sponsibility and of interest causes corporate management 
to be often wasteful and sometimes corrupt. The salaries 
paid are frequently higher than they need be to secure the 
required grade of labor, appointments are often determined 
by personal rather than by business considerations and in- 
flated prices are sometimes paid for materials in consequence 
of the fact that particular directors are interested in their 
production. More common than these clear violations of 
trust are misrepresentations in regard to the affairs of the 
corporation intended to influence the stock market and to 
enable those interested to carry through some deal for their 
own benefit. 

Another abuse is connected with the borrowing power of 
corporations. When this power is used to secure money by 
means of a sale of bonds the law gives to bondholders no 
voice in the management of the corporation so long as their 
interest is paid and the principal is not defaulted. The 
larger the proportion of the capital required for any enter- 
prise that is secured through the sale of bonds, the smaller 
is the interest in the business of the stockholders, who never- 
theless continue to control it. It has often happened in 
connection with railway corporations in the United States 
that the entire capital has been secured by selling bonds 
and that the stock has represented simply a bonus paid to 
the promoters of the company. This is a situation fraught 
with danger, as American experience has abundantly 
proved. To give a fictitious value to their stock, promoters 
are only too apt to pay dividends out of earnings that 
should be expended for renewals and replacements. Before 
the corporation is reduced to bankruptcy they can usually 
sell their holdings to unsuspecting investors and retire, 
leaving to the latter the task of reorganizing the business. 

A third set of evils has reference to the general or pub- 
lic interest in corporations. Individuals in their pursuit 
of gain are controlled by the moral standards of their busi- 
ness associates. Corporations have no moral standards. 



DISADVANTAGES OF CORPORATIONS 103 

Their directors are willing to wink at practices on the part 
of the officials they appoint to which they would not them- 
selves stoop. Corporate officials, moreover, do not hesitate 
to do things in the name and under cover of their corpora- 
tions which they would be ashamed to perform openly for 
themselves. In the United States corporations have been 
guilty of buying legislatures, corrupting judges, bribing 
juries, entering into agreements with political parties in- 
suring them certain privileges in return for campaign con- 
tributions and in fact of every sin in the political calendar. 

It is owing largely to them that the tone not only of 
business but of political morality is so much below the 
standards of private life. This third group of evils is 
at the basis of the " corporation problem." As this is a 
phase of the more important " trust problem " its fuller 
discussion is postponed to Chapter XXII. 

The stockholders of corporations might from what has 
been said be expected to manifest an active interest in their 
management, and this is true of large stockholders who are 
likely to be at the same time directors. Small stockholders, 
however, are very often surprisingly indifferent so long as 
dividends are regularly paid and nothing occurs to excite 
their suspicion that the business is being improperly man- 
aged. When a corporate enterprise is first launched its 
stock is likely to be taken in large blocks by the men most 
interested in it and most sanguine of its success. Some 
shares may go to the general public, but usually a control- 
ling interest is retained by the men who have most to lose 
if the business fails. During the first year or two the stock- 
holders and the active directors are thus apt to be identical 
or so nearly so that risk and responsibility go together. 
Among the directors there is likely to be a guiding spirit 
who performs all the essential functions of the entrepreneur 
except that others share with him the risks of the enterprise 
and the minor details of management. After a corporation 
is firmly established on a paying basis the same conditions 



104 BUSINESS ORGANIZATION 

may and often do continue^ but it is quite as likely that the 
organizers will gradually dispose of their stock to investors 
so that they may have their capital free for the promotion 
of other enterprises. When this occurs the stock is gradu- 
ally diffused throughout the community until the largest 
holdings represent far from a majority of the outstanding 
shares and the control of the corporation has virtually 
passed out of the hands of the few into the hands of the 
many. Under these conditions the control of the business 
depends not on the actual investment of capital in it, but on 
control over the votes of widely scattered and uninformed 
stockholders. The situation is still favorable to the ascend- 
ency of some one man of great organizing ability and much 
depends upon the moral qualities that such a man brings to 
his position. If he is self-seeking and unscrupulous he may 
pack the board of directors with followers of the same 
stamp and deliberately wreck the enterprise for his own 
aggrandizement. If, on the other hand, he is honestly 
anxious to promote the interests of the company, and 
brings ability to his task, he will put in as directors the 
best men he can secure and build up an organization whose 
efficiency will compare favorably with that of businesses 
owned and controlled by single entrepreneurs or partners. 
At each stage in corporate development the tendency thus 
appears to be toward control by one man or a small group 
of men, however widely the stock may be distributed. Suc- 
cessful corporations are as much one-man or few-men enter- 
prises, as regards their actual management, as firms com- 
posed of partners. The chief difference is that corporate 
entrepreneurs incur but a small part of the actual risk of 
loss that partners incur and must be held to the efficient 
performance of their duties, if at all, by higher standards 
of honesty and faithfulness to trust than are demanded in 
the latter form of organization. Notwithstanding the 
many abuses connected with corporate finance in the 
United States the rapid extension of the corporate form of 



LARGE-SCALE PRODUCTION 105 

organization is believed to be proof of parallel progress in 
business morality. If directors of corporations were not 
as a rule honest and upright men, few large corporations 
would be formed, for the simple reason that few people 
would be willing to invest their capital in such hazardous 
enterprises. 

56. The Advantages of Large-scale Production Dif- 
ferent branches of production vary greatly as regards the 
size of the business unit which is best adapted to them. 
In farming in the United States the small farm of from 
twenty to two hundred acres seems to be displacing the 
larger farm of five hundred acres and upwards. In manu- 
facturing and transportation, on the contrary, large- 
scale production is becoming more and more the rule. The 
principal merit of small-scale production is the undivided 
attention which it permits the entrepreneur to give to all of 
the details of the business. This is particularly important 
in farming and in artistic and professional work, where 
continuous attention to matters of detail is the chief re- 
quisite to success. It is less important in manufacturing 
and transportation because the operations required in these 
businesses can be reduced to routine and an efficient check 
on the work of employees can be maintained by occasional 
attention to what they are doing. In these industries a 
great variety of contrivances which compel men to register 
the results of their work as they perform it have been in- 
vented, and these act as mechanical substitutes for " the 
master's eye." Also where automatic machinery is used, 
the pace is set for all operatives and they have to fall in 
with it or incur the risk of being discharged for incom- 
petence. Finally, the system of paying wages in propor- 
tion to the pieces turned out, or the piece-wage system, 
makes the interest of the employee as great as that of the 
employer in the efficiency of his work. 

Large-scale producers enjoy besides important positive 
advantages: (1) As was pointed out in connection with 



106 BUSINESS ORGANIZATION 

the discussion of partnerships and corporations, they can 
command a variety of different talents and place them in 
those departments for which they are best fitted. This 
is another way of saying that they are able to apply the 
division of labor even to the executive branch of the busi- 
ness and to reap all of the advantages that result from it. 
For a simple business such as farming, which, because of 
its periodic character, offers continuous employment to no 
specialists, this consideration is of slight moment. For 
manufacturing and transporting industries, however, which 
have several departments going all of the time, it is very 
important. 

(2) Large-scale production permits the economical 
utilization of expensive machinery and equipment which the 
small-scale producer cannot afford, or which it would not 
pay him to have because his small business would not keep 
it continuously employed. Farmers surmount this difficulty 
in a measure by owning expensive machines jointly and 
sending them round from one farm to another as they are 
required. Manufacturers can hardly do this because their 
machinery is for the most part stationary. At best it is a 
poor substitute for undivided ownership and control, as all 
farmers who have tried it testify. 

The above consideration applies with special force to the 
transporting industries. Canal and railroad companies 
require costly excavations and roadbeds. In these a large 
part of their capital is invested, and interest on this capital 
and outlays connected with the maintenance of way con- 
stitute a large element in their expenses. The amount of 
traffic that may pass through a canal or over a railroad 
is limited only by the frequency with which boats or cars 
may safely be sent after one another. Moreover tempera- 
ture changes, storms, etc., determine the expense of keep- 
ing the system in repair much more than the volume of 
business done. It results from these facts that the ex- 
pense — as regards capital account — per passenger or per 



LARGE-SCALE PRODUCTION 107 

ton of freight carried diminishes steadily as the volume 
of business grows. The original cost and the outlay for 
maintenance of way appear as fixed charges and the larger 
the business done the smaller is the expense per unit as re- 
gards these items. If the running expenses per unit are 
fairly constant, as they are apt to be for a well-managed 
canal or railroad, the large-scale transportation company 
has here a marked advantage over its smaller competitor 
and an advantage which grows as the business grows until 
the traffic has become so large that it cannot be handled 
without numerous accidents. In the light of these two ad- 
vantages concentration in the transporting industries and 
in many branches of manufacturing seems a perfectly nat- 
ural and economically desirable tendency. 

(3) A third advantage of the large-scale producer is in 
connection with the purchase of materials and the sale of 
products. Sellers of materials are willing often to make 
concessions to large buyers, and in marketing products the 
large seller may arrange his advertising more economically 
than his small competitor. 

(4) Large-scale producers can make a better use of by- 
products. In the mineral oil and the meat-packing in- 
dustries large-scale production has made possible the utili- 
zation of waste products to an extent undreamed of when 
these businesses were carried on by small firms, and to the 
advantage of the whole community. 

( 5 ) A fifth advantage is found in the large expenditures 
which a large-scale producer is able to make on experi- 
ments looking to the improvement of the technique of 
production. In businesses which are changing their meth- 
ods continuously, to be the first to introduce a valuable 
innovation means often the difference between success and 
failure. Many of the manufacturing establishments which 
have been most successful in the United States in recent 
years, such as the Carnegie Steel Company of Pittsburg, 
have owed their success in no small degree to their lavish 



108 BUSINESS ORGANIZATION 

expenditures on industrial experiments and for the instal- 
lation of new machinery as soon as its superiority to that 
in use has been demonstrated. 

Large-scale production, it must be clearly understood, 
is by no means synonymous with monopoly, or exclusive 
control, of a given branch of production. Nevertheless, in 
those cases in which the advantages of large-scale produc- 
tion persist, no matter how large the producing unit be- 
comes, monopoly is the goal towards which the business is 
developing and which it will ultimately attain. .This sug- 
gests a threefold classification of industrial enterprises: 
(1) businesses in which the small-scale producer has the 
advantage, as in farming in the United States; (2) busi- 
nesses in which large-scale production is more economical 
up to a certain point, beyond which the loss in efficiency 
resulting from the absence of the direct and personal super- 
vision of the entrepreneur more than offsets the gains from 
further concentration; (3) monopolies. 

57. The Representative Firm. — As special chapters are 
devoted to monopolies it will not be advisable to discuss 
them further at this point. Although numerous and per- 
haps multiplying in the United States, monopolies as yet 
dominate but a small part of the vast field of production. 
Farming, most branches of mining, lumbering, fishing, 
manufacturing, trade, banking and many branches of the 
transporting industries are still controlled more or less 
completely by competition. In each of these industries 
at any given time there is a certain size of business plant 
which under average management is most conducive to 
economical production. This may be designated as the 
representative firm. As methods of production change, 
the size of the representative firm of course changes also, 
but such changes are gradual and may without serious 
error be overlooked in connection with the consideration of 
the broader problems of economics. 

The representative firms in each branch of business may, 



THE REPRESENTATIVE FIRM 109 

as Professor Marshall has suggested, be compared to the 
full-grown trees of a primeval forest. Around them and 
competing with them for customers are overgrown firms 
that are falling into decay and new firms that are gradually 
making a place for themselves, just as in the primeval 
forest overgrown and decaying trees and aspiring young 
saplings struggle with their full-grown brothers for a 
share of earth and sunlight. And just as the trees of full 
growth are the dominant feature in a primeval forest, so 
representative firms dominate in business. 

In the next chapter we pass from production to distribu- 
tion. Both parts of economics deal with the same phenom- 
ena, that is, with wealth creation through the application 
of labor aided by capital to land, but while in production 
the creation is the important thing, in distribution the 
motives which control men and the relation of the parts 
which different factors play in this creation are important 
because upon them depends the division, or sharing, of the 
wealth created. 



REFERENCES FOR COLLATERAL READING 

* Seligman, Principles of Economics, Chaps. XIX. and XXII.; 
* Bullock, Selected Readings in Economics, Chap. X. ; * Marshall, 
Principles of Economics, Book IV., Chaps. VIII.-XIIL; * Nichol- 
son, Principles of Political Economy, Book I., Chaps. VII.-X. 



CHAPTER VII 
PRODUCTION AND DISTRIBUTION 

58. The Nature of Distribution. — In the preceding 
chapters the products of industry have been referred to 
sometimes as commodities and services, sometimes as eco- 
nomic goods and sometimes as valuable utilities. It is 
these same commodities and services, goods or utilities, 
that are the objects of distribution. If the identical 
goods produced were directly and immediately divided 
among those who take part in their production, the mat- 
ter would be comparatively simple. But such production 
"on shares" belongs to a primitive stage of industrial 
development. Under modern conditions goods are pro- 
duced for sale, and it is the money or purchasing power 
received for them, rather than the goods themselves, that 
is the first concern of distribution. Consider, for example, 
the case of some typical business establishment, like a shoe 
factory. The manager of such an enterprise would never 
think of compensating his employees or others who have 
claims upon him with pairs of shoes, the products of his 
business. Instead, he sells his shoes as they are produced 
for the best prices obtainable, and the money or purchas- 
ing power he receives for them is what he really divides 
among those who have claims upon the product. 

In determining what the product has been, and, there- 
fore, what is the money return to be divided, it must be 
remembered that not all the new commodities and serv- 
ices produced during a year are to be credited to the 
year's industry. In connection with nearly every branch 
of production there is a destruction of commodities and 

110 



THE NATURE OF DISTRIBUTION 111 

services for which full allowance must be made in the gross 
product before the net product, or what has really been 
added to the wealth of the world, can be calculated. The 
farmer uses up seed, fertilizers, tools and farm buildings. 
The manufacturer destroys raw materials, fuel, machin- 
ery and factories. Even the banker and professional man 
use up stationery and office furniture. These losses and 
wastes, which are a necessary part of all production, must 
be met by the deduction from the gross returns of the 
year's business of what we may call a replacement fund. 
Through this fund raw materials and partially finished 
products, destroyed or altered in form, are replaced; 
buildings, machines, tools and other things subject to wear 
and tear are repaired and renewed ; and, finally, provision 
is made for substituting for worn-out machines and other 
equipment, new capital goods of at least equal efficiency. 
The deduction to be made from the gross product for the 
replacement fund is calculated as a sum of money or pur- 
chasing power. In our shoe factory, for example, the 
capital goods used up in the process of production can- 
not be replaced literally out of the product. It is not 
shoes that are needed, but leather, tools, repairs on build- 
ings and machinery, etc. The expense of making these 
replacements and repairs is calculated in money and de- 
ducted from the gross money return from the year's busi- 
ness. The net money return which is left, and which we 
shall designate in future as the money income, is the first 
object of the distributive process. 

But if money or purchasing power is the first thing dis- 
tributed, it is merely as a means to an end. Those who 
take part in production desire primarily not money, but 
want-gratifying goods. To determine what is really dis- 
tributed, we must inquire what is bought with the money in- 
come, for this is the real income. Thus a complete account 
of distribution must supplement an explanation of the 
sharing of the money income among those who have claims 



112 PRODUCTION AND DISTRIBUTION 

on the product with a description of the conversion of 
this money income into consumable goods. In the follow- 
ing chapters on Distribution attention is directed chiefly 
to the circumstances which determine the sharing of the 
money income. Some of the conditions which affect the 
conversion of the money income into real income were con- 
sidered in Chapter III. Others receive attention in con- 
nection with the discussion of money in Chapters XIV., 
XV. and XVI. 

59. Connection between Prices and the Money In- 
come to be Distributed. — Since distribution is concerned 
first with the money returns of industry, we must begin 
our discussion by recalling the principles which determine 
the prices at which goods are sold. For the aggregate 
price received for the product constitutes the gross money 
return of a business and this less the deduction for the re- 
placement fund constitutes the money income. As ex- 
plained in Chapter III. the prices at which goods sell cor- 
respond closely to the money equivalents of their marginal 
utilities to marginal buyers, that is, to the buyers who are 
just induced to purchase a part of the available supply. 
If the available supply is small the prices will be rela- 
tively high, marginal buyers being those to whom the 
goods have high marginal utilities or who have large in- 
comes to spend. The larger the supply the lower the 
price must be, since less eager or less wealthy buyers must 
be appealed to to effect the sale of the larger stock. 
Under all circumstances, however, one determinant of the 
prices of goods is the money equivalent of their marginal 
utilities to marginal buyers. The money income derived 
from a business, determined, as already explained, by the 
prices received for the products, is, therefore, determined 
in turn by the marginal utilities, valued in money, of 
these products to marginal buyers. In other words, one 
of the first principles in regard to distribution to be re- 
membered is that the money income to be distributed is 



PRICES AND THE MONEY INCOME 113 

determined by the want scales of consumers coupled with 
the money or purchasing power which they happen to 
command. As this money or purchasing power in the 
hands of consumers is itself for the most part money in- 
come previously received, production, distribution and con- 
sumption mutually determine one another. 

But this is only one side of the matter. On the side of 
production, except when monopoly intervenes and sup- 
plies are artificially controlled, the stress of competition 
causes the supplies of goods to be increased (or decreased) 
until their prices correspond to the expenses of production 
of marginal sellers. These expenses are not, however, in- 
dependent of the prices they help to determine. They are 
themselves derived from these prices. But they serve to 
equalize prices by acting as regulators of the supplies of 
competitively produced goods. For example, the wages 
of labor, which are an important item among the expenses 
of production, are derived from the prices paid for the 
goods which labor helps to produce. Labor in and for 
itself is not valuable. It is only valuable because through 
it valuable goods are produced. Labor which did not, or 
was not expected to, result in valuable goods would be 
worth nothing. But since normally labor does result in 
valuable products, a day's labor comes to be recognized 
as commanding a certain wage. This current rate of 
wages, itself derived from the prices received for the 
products of labor, is an item of expense to anyone who 
wishes to start a new branch of production. Unless the 
expected products promise prices sufficient to cover this 
and other items of expense the new line of production will 
not be undertaken. Thus the current rate of wages 
stands as a barrier to the extension of production in this 
direction or in that, and in this way controls the supplies 
of goods that are produced. It serves to equalize sup- 
plies by checking production whenever it threatens to be 
unprofitable. The tendency thus is for production to be 



114 PRODUCTION AND DISTRIBUTION 

extended in each direction up to the limit set by the ex- 
penses of production to marginal producers. In this way 
the expenses of production figure as an important sec- 
ondary factor in the distributive process in connection 
with competitively produced goods. 

60. Elements in the Expenses of Production. — As 
used in these pages, the term, expenses of production, in- 
cludes every item of outlay which producers must nor- 
mally and regularly incur to put goods on the market and 
effect their sale and also such compensation as producers 
normally and regularly require to induce them to con- 
tinue to serve industrial society as entrepreneurs. These 
items are as follows: (1) Outlays for materials, wear and 
tear of buildings and machinery, etc., or the replacement 
fund; (2) premiums paid for the insurance of capital 
goods; (3) interest for the use of capital; (4) wages to 
workers of all grades ; ( 5 ) rent of land and natural powers 
used in production; (6) taxes; (7) minimum profits to the 
entrepreneur to remunerate him for his own time and 
trouble. 

The first item calls for no further explanation. As a 
matter of course every business man deducts a replacement 
fund from the price he receives for his products. Pre- 
miums for insurance, looked at broadly, are merely addi- 
tional expenses for the replacement of capital and may 
properly be included in this first item. 

The item of interest for the use of capital is calculated 
at a certain rate per cent per annum for the capital em- 
ployed. Thus if a business ties up on the average 
throughout the year capital goods worth $10,000 and the 
current rate of interest is five per cent, $500 should be 
charged as expense for interest. This item appears 
whether in the particular business considered borrowed 
capital or capital belonging to the firm is used. If the 
former is the case the expense for interest is an actual out- 
lay, if the latter it is a virtual outlay since using the 



THE EXPENSES OF PRODUCTION 115 

capital in the business prevents loaning it at the current 
rate to some other entrepreneur. 

The propriety of naming wages as one of the items of 
expense is obvious. As the term is here used it includes 
all payments for labor, whether wages in the ordinary 
sense or salaries. It is convenient to go even further and 
to include in it the seventh item enumerated above, the 
minimum profit received by the entrepreneur, on the 
ground that the latter is merely a wages of management 
and as appropriately included in wages, although paid by 
the entrepreneur to himself, as is the interest charged for 
the use of a firm's own capital included in interest. The 
amount that should be charged as wages of management 
or minimum profit is, as explained below, what the entre- 
preneur could obtain for his services if he worked for 
wages or for a salary. 

The rent of land or natural power was spoken of in 
Chapter IV. as a profit over and above the expenses of 
production. To the farmer cultivating his own land it 
is an item of return rather than an outlay ; but the same 
reasons that cause economists to include an allowance for 
interest on a firm's own capital and for wages to the entre- 
preneur himself among the expenses of production lead 
them to treat rent also as an expense of production. To 
the entrepreneur using leased land rent is an expense. If 
instead he uses land which he himself owns it is virtually 
an expense because by using it he loses the rent he might 
have obtained had he leased it to another. 

Taxes are another irregular charge from which many 
producers are exempt. Their amount depends on the 
arbitrary decision of the taxing power and for this reason 
as well as because they do not affect at all many branches 
of production we may leave them out of account in our 
treatment of distribution. 

Summing up the results of the preceding discussion we 
see that the items in the expense of production may be 



116 PRODUCTION AND DISTRIBUTION 

reduced to four: (1) expense for replacement or mainte- 
nance of capital goods, (2) interest, (3) wages, {4) rent. 

6i. The Wages of Management. — Among the elements 
in the expense of production the item that is most likely 
to cause confusion is the minimum profit of the entre- 
preneur or the wages of management. An explanation, 
at this point, of the reasons for merging this item with 
wages in general may prevent possible misunderstanding. 
As business is now organized in progressive countries there 
is a demand for hired workers possessing every variety of 
ability. From the forty cents a day paid to wage-earners 
in certain occupations in the United States to the $50,000 
or more a year paid to the heads of various banking, in- 
surance, railway and industrial corporations is a long step ; 
but these and all intermediate earnings of hired workers are 
to economic analysis simply wages paid for services rendered. 
Nearly, if not quite, as comprehensive as the wages scale is 
the scale of entrepreneurs' earnings or wages of man- 
agement. All but the very lowest groups of hired workers 
have among them individuals who may, if they choose, set 
up in business for themselves. Even sweat-shop employees 
have as an alternative occupation peddling, in which they 
assume the risks of loss. Agricultural workers may be- 
come homesteaders or, in the more settled portions of the 
country, may rent small plots of land to cultivate at their 
own risk. Similar but more numerous alternatives are open 
to the higher groups up to the highly paid managers of 
large corporate enterprises, any one of whom could, with 
his superior executive ability, direct successfully a number 
of different businesses. 

When a man who is or might be earning a certain wage 
or salary as an employee, chooses instead to figure as an 
independent entrepreneur, it is reasonable to assume that he 
expects to better his condition. He may make the change 
because he loves independence or because the new occupa- 
tion is more congenial, but he is not apt to make it unless 



THE WAGES OF MANAGEMENT 117 

he expects also to realize the same or higher earnings than 
in the other position open to him. The wage or salary that 
might be obtained is thus a minimum profit or wages of 
management that must be paid to the entrepreneur in order 
to secure his services in connection with his entrepreneur 
function. At any given time the members of any group 
of workers may be distinguished into three types : ( 1 ) those 
who do well as employees, but have not the enterprise to 
set up in business for themselves, (2) those who are plan- 
ning to become entrepreneurs and are only waiting for 
favorable opportunities to begin, (3) those who have 
been entrepreneurs, but have been compelled through fail- 
ure to return to the ranks of hired workers. Individuals 
of the first type exert little, influence on the earnings of 
their group. They accept what industrial conditions en- 
able them to get. Those of the second and third types, on 
the other hand, are important factors in determining the 
amount of these earnings. The former are constantly 
studying other industrial opportunities and through their 
readiness to abandon the positions which they have in order 
to launch out as entrepreneurs, the rate of wages for their 
group is prevented from falling below the earnings of 
entrepreneurs of the same grade. More important for 
our present purpose is the conduct of persons of the third 
type, who have resumed their posts as wage-earners because 
their earnings as entrepreneurs have ceased to equal even 
the^ wages that they can obtain in such positions. Their 
ready return to the ranks of employees prevents entrepre- 
neurs' earnings from falling, except for brief periods, 
below the wage level. 

The wages of management have been defined as the wages 
or salary which an entrepreneur might earn by working 
for hire. It is large or small according to the grade of 
labor for which the entrepreneur is fitted, and may equal 
only the dollar or less a day of the itinerant peddler or 
organ grinder or the $100,000 a year of the salaried 



118 PRODUCTION AND DISTRIBUTION 

manager of a billion-dollar corporation. Arguing that 
free competition tends to keep the earnings of entrepre- 
neurs down to bare wages of management, does not, there- 
fore, imply that these earnings are scanty. Bare wages 
for the efficient manager of a gigantic corporation con- 
stitute a princely income. It simply recognizes that wages 
of management are governed by the same law that controls 
wages generally and that for this reason they require no 
independent explanation. 

62. The Normal Expenses of Production. — The ex- 
penses of producing commodities of each sort are different 
for different firms. For new firms just establishing business 
connections and not yet ready to produce on the scale that 
experience has shown to be most economical, expenses are 
high. They are high also for old firms that are over- 
grown or for some other reason are falling into decay. 
They are lowest for those firms which have attained just 
the size necessary for most economical production and 
which are managed with greatest ability.* Among such 
firms those managed with average ability may conveniently 
be designated as representative firms. These firms are the 
marginal sellers of competitively produced goods whose 
competition serves to keep prices from deviating very far 
from the norms fixed by their expenses of production. The 
expenses of production of representative firms may, for this 
reason, be described as the normal expenses of production 
and the prices corresponding to them as the normal prices, 
about which, as already stated, market prices tend to oscil- 

* Nothing is said about differences in expense due to differences 
in the qualities of land or natural power used because these are fully 
covered by the item rent. For example, if a farmer, cultivating all 
his land in the same way, produces on some acres larger crops than on 
others year after year the differences must be ascribed to differences 
in the land, and a proportionately larger allowance for rent must be 
charged against the better acres than against the poorer. This extra 
rent may in practice be merged in the gross rent charged for the 
whole farm, but it is no less important in determining how large 
this gross rent should be. 






NORMAL EXPENSES OF PRODUCTION 11§ 

late. The market price cannot fall for any length of time 
below the standard fixed by the expenses of production to 
representative firms, for under such circumstances they 
suffer losses and proceed to curtail production until demand 
for the diminishing supply of the commodity brings its 
price back to a remunerative level. The market price can- 
not rise for any length of time above them because then 
all representative firms will be making an extra profit and 
some will seek to secure more of it by enlarging the volume 
of their production. Supply will be increased and this in 
time will bring the price down to the old level or force it 
below it. Or, looking at other effects, as the price falls 
below the expenses of production to representative firms de- 
caying firms are forced into bankruptcy and new firms are 
so discouraged as to withdraw from the business, and in 
these ways supply is lessened. On the other hand, a rising 
price not only encourages tottering firms to keep up the 
struggle but induces new firms to enlarge the capacity of 
their plants for the double purpose of selling more at the 
high price and of realizing the economies of large-scale 
production. In these ways the supply is increased and the 
price is brought back to the normal. 

It must be carefully noted that the above reasoning 
assumes not only active competition but the absence of 
change as regards the expenses of production per unit of 
product which representative firms incur. If conditions are 
changing so that these expenses vary constantly even the 
most persistent competition may fail to cause the price of 
the product to correspond accurately to the normal ex- 
penses of production. It would tend always toward such 
correspondence, but it might never attain to it. In actual 
practice market prices seldom do conform exactly to nor- 
mal prices, and no explanation of distribution is complete 
which fails to make full allowance for discrepancies between 
the two. By reference to normal prices, as standards, 
however, the circumstances determining the shares in dis- 



120 PRODUCTION AND DISTRIBUTION 

tribution can be quite as logically and more easily ex- 
plained, than they could be if the tendency of competition 
to bring market prices to the normal were ignored. The 
prominence given to normal prices in these pages is thus a 
convenient logical device for simplifying what would other- 
wise be bewilderingly complex. 

Normal prices for competitively produced goods just 
cover the expenses of their production — the allowance for 
the replacement of capital goods, interest, wages and rent. 
As a usual thing these four items of expense are incurred 
by the entrepreneur before production is concluded and 
before he knows what prices he is going to get for his 
products. He buys his materials, tools, machinery and 
other capital goods at current prices, he borrows capital 
to pay for them and perhaps to pay wages at current rates, 
he hires workmen and leases land on the terms fixed for him 
by general market conditions rather than on his own terms, 
and all of these arrangements are entered into before the 
product is ready for sale. It is in this contracting to pay 
the expenses of production before the product is ready for 
sale or the price to be received for it known that the princi- 
pal risks of business, which it is the entrepreneur's function 
to incur, consist. When prices are normal the representa- 
tive firm receives from its sales just enough to cover its 
expenses of production including an adequate wages of 
management. Any deviation from the normal means 
extra profit or unexpected loss to the entrepreneur or 
to stockholders, who are the risk-takers in corporate 
enterprises. 

The market prices of goods may differ from the normal 
prices corresponding to the normal expenses of producing 
them, either because conditions are changing and competi- 
tion has not yet adjusted supply to demand at the new 
normal price level, or because competition is itself absent 
and monopoly stands as a barrier to such an adjustment. 
In the former case we have to do with what we may call a 



THE SHARES IN DISTRIBUTION 121 

competitive profit (or loss) ; in the latter with monopoly 
profit. 

63. The Shares into Which the Money Income is 
Divided. — From the point of view of production rent, 
wages and interest are expenses while competitive and 
monopoly profits are surpluses due to deviations of market 
prices from the normal. From the point of view of distri- 
bution all five are shares into which the money income de- 
rived from a country's industries, that is, the gross money 
return less the deduction required to replace and maintain 
the fund of capital, is divided. It is the task of the theory 
of distribution to explain what causes, at last analysis, 
determine the size of these different shares. In the follow- 
ing pages we have attempted to prove the thesis that com- 
petition tends to secure for each factor in production a share 
of the money income corresponding to what it itself pro- 
duces. Every circumstance which causes market to diverge 
from normal prices interferes with this result and occa- 
sions profit or loss to entrepreneurs above or below their 
proper wages of management. The chapters on Com- 
petitive Profits and on Monopoly Profits discuss the circum- 
stances that may cause such divergence and the shares of 
income to which they give rise. The chapters which follow 
on Rent, Wages and Interest attempt to show that each 
tends to be the share of the normal price corresponding 
to what the factor concerned contributes to production. 
Finally the concluding chapter on Value and Distribution 
recapitulates the explanation in more general terms and 
adds the last link in the chain of reasoning by indicating 
the causes that control the supplies of workmen and of capi- 
tal goods. 

An explanation of the causes that determine the shares 
into which the net product is divided is by no means a com- 
plete account of the influences which make some men rich 
and others poor. There are a great many circumstances 
that affect the distribution of property that are uneconomic 



122 PRODUCTION AND DISTRIBUTION 

in character. For example, no one factor is more potent in 
deciding that some shall be rich while others are poor than 
the inheritance of wealth. On this topic the economist should 
have something to say (Section 237), but it is not a mat- 
ter that can be treated profitably in a theory of distribu- 
tion. In the same way the philanthropies of public-spirited 
citizens in endowing art galleries and other institutions for 
public enjoyment and instruction and the intelligent ex- 
penditures of municipalities in supplying free schools, play- 
grounds and parks, contribute important elements to the 
real incomes of the citizens of every community, but these 
contributions are not subject to economic law. The theory 
of distribution is necessarily limited to the division of the 
money income among those who on one ground or another 
have an economic claim. It must be supplemented by a 
study of many other factors to furnish a complete under- 
standing of the causes of wealth and poverty. 



REFERENCES FOR COLLATERAL READING 

* Clark, Essentials of Economic Theory, Chaps. V. and VII.; 
* Fetter, Principles of Economics, Chaps. VI., XXX., XLII. and 
XLIIL; * Marshall, Principles of Economics (fifth edition), Book 
VI., Chaps. I. and II.; * Carver, Distribution of Wealth, Chap. III. 



CHAPTER VIII 
DISTRIBUTION: COMPETITIVE PROFITS 

64. The Causes of Competitive Profits. — The principal 
causes of competitive profits, that is, profits in excess of 
the wages of management not due to some monopolistic ad- 
vantage, are the following: (1) price fluctuations, which 
may be confined to particular commodities or general; (2) 
the introduction of novelties ; ( 3 ) improvements in methods 
of production ; ( 4 ) variations in climatic or other natural 
conditions; (5) the exploitation of new lands and natural 
resources, and (6) modifications in the current rates of 
remuneration of other factors in production. These and 
other changes that are constantly occurring in progressive 
communities make competitive profits an important share 
of the money income annually distributed, notwithstanding 
the tendency of competition to reduce profits to the wages 
of management. But for these changes entrepreneurs 
would succeed, as they are constantly striving to, in assign- 
ing workmen and capital goods to those branches of pro- 
duction in which they afford the largest returns and in 
making in each branch of production just that combina- 
tion of factors that is most economical under the given 
conditions. All incompetent entrepreneurs would be forced 
into the ranks of employees and all profits would be reduced 
to wages of management.. This is the goal toward which 
competition is constantly pressing. How far it always is 
from attainment will be made evident as we discuss more 
in detail the causes of competitive profits that have been 
enumerated. 



124 COMPETITIVE PROFITS 

65. (1) Profits Due to Fluctuations in the Prices of 
Particular Commodities. — That fluctuations in the prices 
of particular commodities are one of the most common 
causes of profits is a fact familiar to every business man. 
In making their calculations for the future entrepreneurs 
estimate the prices they will have to pay for the materials, 
etc., which they must use and the prices they will receive for 
their products. If materials become cheaper or products 
dearer after they are embarked on their enterprises their 
profits will be larger than was expected. Dearer materials 
and products commanding lower prices, on the other hand, 
will cause a miscarriage of their plans and inflict loss upon 
them. 

Conservative entrepreneurs try to prevent adverse price 
fluctuations by a variety of expedients, ranging all the 
way from mere verbal understandings among competitors 
to monopolistic combinations. Mere verbal understand- 
ings, unless supplemented by some effective means of con- 
trolling the volume of goods produced, serve to lessen the 
frequency of price fluctuations but not their extent. 
The rise or fall in price which in the absence of any 
agreement results from a number of slight modifications, 
is made, under the system of agreements, at one bound as 
soon as the agreement lapses or is broken and free play is 
again given to the pent-up forces of competition. Not- 
withstanding this disadvantage entrepreneurs seem to find 
even temporary stability preferable to the constant oscilla- 
tions of a freely competitive market, and price under- 
standings among competitors, ranging from the familiar 
pools of the stock market to agreements among producers 
of materials, such as coal and iron ore, and of agricultural 
products, such as fruit, are becoming more and more com- 
mon phenomena. 

Another expedient for minimizing price fluctuations is 
dealing in " futures." Entrepreneurs who wish to eliminate 
so far as possible the element of uncertainty from their 



SPECULATION STEADIES PRICES 125 

businesses, contract ahead both for the materials they are 
to use and for the sale of their products. This practice 
has become especially marked in the building trades and in 
connection with different branches of iron and steel pro- 
duction. Building contractors, for example, before making 
bids on the erection of structures, secure options at certain 
prices for the delivery of the materials they will require. 
They then make their estimates with full knowledge in re- 
gard to the cost of these materials. If their bids are 
accepted the only uncertainties involved in the venture 
attach to the accuracy of their estimates of the quantities 
of materials required and of the expense for labor. Simi- 
larly in the iron and steel business it is customary for 
manufacturers to contract ahead for materials at the same 
time that they book orders for their products months in 
advance. The tendency of dealings in futures is to assign 
to a particular class, namely, to those who have a special 
talent and taste for forecasting price variations, the task 
of estimating the future conditions of demand and supply 
in each market and naming in advance the prices which 
competition will tend to establish. The more accurately 
this class makes its calculations, the more perfectly will its 
operations cause the present price of each good to adjust 
itself to the price to be established in the future. The 
best illustration of this in the United States is furnished 
by transactions on the produce exchanges. 

66. Speculation Tends to Steady Prices — Produce ex- 
changes are now found in nearly all large cities in Western 
countries and in them contracts for the delivery of the 
great staples, corn, wheat, cotton, pork, etc., are made 
three, six and even nine months in advance. Thus in the 
autumn, after the crops have been harvested, wheat is regu- 
larly dealt in in the United States for December, May and 
July delivery. The wheat available for May delivery has 
already been harvested, so its amount can be determined with 
a fair degree of accuracy. Between the end of May and 



126 COMPETITIVE PROFITS 

the end of July new wheat will find its way to the market, 
and this is a factor to be reckoned with. Figuring on these 
data and any others that they can secure, wheat operators 
make their estimates in regard to probable price movements. 
They decide in their own minds what prices will prevail in 
May and July and buy or sell accordingly. Suppose that 
an influential group of operators accurately foresees that 
a much higher price must prevail in May than prevails in 
December. Their course will be to buy wheat for May 
delivery and to continue to buy it so long as there is any 
margin between the price they anticipate and the price at 
which others are willing to contract to deliver it. But all 
wheat stored in elevators in December is potentially wheat 
for May delivery. It is a simple calculation to subtract the 
fee for storage and insurance and the interest on the capital 
invested to determine what price such wheat should com- 
mand in December to correspond with a given May price. 
As the May price rises the December price must, in the ab- 
sence of some extraordinary condition, rise also. It follows 
that by forecasting accurately the higher price to prevail 
five months hence the operators help to advance the pres- 
ent price of wheat. As the price rises present consump- 
tion will be curtailed somewhat and more wheat will be 
set aside for future use. This additional wheat will figure 
as part of the May supply and should lead the operators 
referred to to reduce somewhat their estimate of the May 
price. The lower price for wheat for future delivery will 
be reflected back to present, or " cash," wheat and will 
depress its price. In this way by means of calculations 
which constantly require revision operators in futures tend 
to adjust the present to the future price and to narrow 
the range of price oscillations. 

Some of the shrewdest and best-informed men in the 
United States find it profitable to devote much of their 
time to studying the conditions of supply and demand with 
reference to each of the great staple products. They make 



PROFITS DUE TO PRICE MOVEMENTS 127 

mistakes in their calculations, of course, and very often 
buy or sell for future delivery at prices widely different 
from those which actually prevail when the future time 
arrives. But they are less apt to make mistakes than men 
who are without their special talent and training, and on the 
whole their operations have a decidedly steadying influence 
on the prices of the commodities in which they deal. Even 
more important is the service they render in assuming risks 
in regard to price changes which otherwise all entrepreneurs 
would have to share and in making it possible for conserva- 
tive producers to know just what prices they will have to 
pay for needed materials months before they have occasion 
to use them. 

67. Profits Due to General Price Movements — -In ad- 
dition to oscillations in the market prices of particular 
articles, there are general price movements which affect all 
business. When money prices generally are rising all 
entrepreneurs are in the happy situation of receiving more 
for their goods than they expected. They have paid or 
agreed to pay for materials and factors of production 
prices and rates adjusted to lower price conditions. Any 
increase in the prices they obtain for their products affords 
an extra or competitive profit. The usual effect of such 
a situation is to stimulate enterprise. Everyone in business 
for himself is making money and all but the most con- 
servative wish to enlarge the volume of their businesses so 
that they may make more. Entrepreneurs eagerly com- 
pete with one another for control over the factors of pro- 
duction, and by this competition rents, wages and interest 
rates are advanced until prosperity appears to be general. 
To illustrate, suppose the different branches of produc- 
tion are represented by the letters A, B, C, D, etc. In all 
these industries profits above the wages of management are 
being received. Entrepreneurs in industry A are encour- 
aged to enlarge the producing capacities of their plants 
and to enter the market as hirers of labor and borrowers 



128 COMPETITIVE PROFITS 

of capital. But the number of workmen and the supply of 
capital goods are not to be increased at will. To employ 
more labor and capital at A means normally to draw them 
away from B, C and D, and this can be done only by offer- 
ing higher wages and higher rates of interest. But at B, C 
and D, there are similar inducements to enlarge production. 
Rather than lose workmen or capital goods, entrepreneurs 
in these industries will offer still higher wages and interest. 
This competition will continue so long as there is any extra 
profit in any line of competitive business to induce it. Un- 
less prices continue to advance to ever higher levels the 
rising expenses of production will presently cut down the 
margin of profit until it again amounts only to the wages 
of management to which entrepreneurs are entitled. Such 
bursts of prosperity, if unaccompanied by an actual in- 
crease in the net product of goods, benefit entrepreneurs at 
the expense of the other sharers in distribution, whose money 
incomes increase less promptly than the prices of the goods 
they consume. As a rule, however, one effect of rising 
prices is to furnish more active employment for all of the 
factors in production and to cause a correspondingly en- 
larged output of goods. In time this increased volume of 
goods will be available for consumption and then the pros- 
perity will begin to have a solid basis in the increased well- 
being of all classes in the community. 

A period of falling prices affects industrial relations in 
an exactly opposite way. Instead of receiving profits in 
excess of their wages of management, entrepreneurs now 
experience losses. To reduce these so far as possible, they 
tend to reduce the volume of goods which they produce 
and to curtail the expenses of production. Either by dis- 
charging workmen and failing to renew capital as capital 
goods are worn out, or by cutting down rents, wages and 
interest rates, entrepreneurs compel other classes to share 
their losses with them. Unless the fall in prices continues, 
it will not be long before the expenses of production are 



PROFITS DUE TO NOVELTIES 129 

scaled down by these measures to a point which again per- 
mits entrepreneurs to enjoy wages of management com- 
mensurate with their abilities. In this case the depression, 
in the sense of diminished well-being, will be merely appar- 
ent until it causes an actual curtailment of the net product. 
During the short interval that business is continued on the 
same scale in the hope that the drop in prices will prove to 
be only temporary, what entrepreneurs lose will be gained 
by other sharers in distribution, whose money incomes now 
mean larger command over consumable goods. 

If space permitted abundant proof of the truth of the 
above description might be cited from the industrial history 
of the United States. The most serious industrial depres- 
sion which the country has experienced, that of the years 
1893 to 1897, was the culmination of a long period of 
falling prices. On the other hand, the remarkable pros- 
perity which the country enjoyed from 1897 to 1907, 
almost without interruption, was closely connected with the 
rise of prices in that period. These general price move- 
ments receive further consideration in connection with the 
subjects of Money and Credit (Chapters XIV. to XVI.) 
which must be studied before they can be understood. 

68. (2) Profits Due to the Introduction of Novelties. 
— Entrepreneurs who discover, invent or make available 
new and more economical means of want gratification are 
among the greatest benefactors of the race. It is through 
their efforts that the consumption of a people gradually 
adjusts itself to the productive capacities of the environ- 
ment. Examples of such innovations are legion. Of late 
years in the United States dozens of varieties of cereaj 
foods have been invented, which preserve the nutritious ele- 
ments in the grains more fully than the white wheat flour 
which they serve in a measure to 3upplant. In the domain 
of transportation, bicycles and trolley cars have already 
largely superseded horses, and they in, turn are beginning 
to be superseded by automobiles. Other recent inventions of 



130 COMPETITIVE PROFITS 

far-reaching importance are the telephone, the linotype and 
the typewriter. In connection with each of these innova- 
tions and thousands of others introduced during the last 
thirty years, large profits have been made either by the in- 
ventors themselves or by the entrepreneurs who have made 
the inventions commercially successful. 

In estimating the extent of these profits to entrepreneurs 
as a whole two substantial deductions must be made. In the 
first place few if any new goods are offered for sale which 
do not attract purchasers from other goods. Even novel- 
ties which do not directly supersede other goods previously 
used for the same purpose, cause substitutions which are 
detrimental to the interests of other entrepreneurs. Thus 
the introduction of the bicycle is said to have interfered 
with the business of watch manufacturers in the United 
States. In a similar way the introduction of the trolley car 
led to the shutting down of more than one horseshoe-nail 
factory. From the large profits of entrepreneurs who pro- 
duce and sell successful novelties must be deducted the 
losses of entrepreneurs whose businesses suffer because novel- 
ties are put on the market. The second deduction is for 
losses incurred by inventors and entrepreneurs who try to 
make a success of novelties which are not appreciated by 
the consuming public. Millions of dollars are spent every 
year in the promotion of discoveries and inventions which 
are complete failures from the business standpoint. In a 
country like the United States, where entrepreneurs are 
willing to assume large risks in the hope of large gains, it 
is not at all unlikely that more is lost every year in the effort 
to find a market for unsuccessful novelties than is made in 
connection with those which succeed. The net profit to 
entrepreneurs collectively from the production of novelties 
is, for these reasons, smaller than most people imagine. 

69. (3) Profits Due to Improvements in Methods of 
Production. — Quite as conspicuous in a progressive country 
as profits from novelties are profits from improved methods 



PROFITS DUE TO IMPROVEMENTS 151 

of production. Every entrepreneur is constantly on the 
alert to improve his methods of production and in this way 
to reduce his expenses. Consider, for example, the situation 
of farmers. If they are to make more than mere wages of 
management they must improve on current methods of 
cultivation. By treating the land in a different way, using 
new fertilizers, organizing their labor force better or buy- 
ing superior kinds of agricultural machinery with their 
capital, they may accomplish this result. As their expenses 
of production are reduced, a larger or smaller margin is 
left as an extra profit or reward for their enterprise. But 
such improvements soon become matters of common knowl- 
edge and common practice. Other farmers imitate them, 
and in time they become the methods of representative 
farmers generally, whose expenses have a determining in- 
fluence on prices. The extra profit which was for a while 
enjoyed disappears either because prices are lowered or 
because wages, interest, etc., are raised or because both 
changes co-operate in adjusting prices again to the ex- 
penses of production. As for farmers, so for manufac- 
turers and entrepreneurs in other fields, new methods of 
production are an important, if not the most important, 
source of competitive profits. 

As the above analysis suggests, profits, which are not 
monopoly profits, are soon overtaken and eliminated by 
competition. If improvements were to cease profits from 
this source would soon cease also. In progressive com- 
munities they continue to be an important element in the 
wealth annually divided among the sharers in distribu- 
tion because improvements follow one another so swiftly 
that for every extra profit that is cut off by competition 
other extra profits due to more recent innovations are 
substituted. 

The same process which cuts down extra profits as the 
new methods upon which they depend are more and more 
generally used, inflicts loss on entrepreneurs who have not 



132 COMPETITIVE PROFITS 

the intelligence or enterprise to adopt them. Their ex- 
penses of production remain stationary or even increase, 
and in consequence they incur losses as the competition of 
progressive entrepreneurs forces prices down to the new- 
cost level. From this it follows that the extra profits of the 
progressive are usually offset before they disappear by 
losses on the part of the plodding and unprogressive. It is 
for this reason that business failures are more common in 
the most progressive and on the whole prosperous coun- 
tries than in those where old methods are adhered to and 
innovations are frowned upon. In the former competition 
is more strenuous and the relatively unfit are more promptly 
eliminated. 

70. (4) Profits Due to Variations in Climatic or Other 
Natural Conditions. — All industries which depend upon 
climate, rainfall, the direction and velocity of the winds or 
other variable manifestations of nature show irregular re- 
turns from year to year, and these irregularities count as 
profits or losses to entrepreneurs. The variable profits of 
the farmer from this cause are familiar to everyone. He 
invests capital in the cultivation of his land, paying rent, 
wages and interest at rates determined by general market 
conditions. In making his calculations he assumes that he 
will realize at least an average crop. If it prove to be a 
good year the crop will be larger than the average and he 
will receive for it enough to cover the expenses of pro- 
duction and to leave a comfortable margin for profit. In a 
poor year, on the contrary, he may not only make less than 
his proper wages of management, but even lose some of 
his capital. Similarly dependent upon nature are cattle 
raisers, hunters, fishermen, navigators and many others. In 
the case of each the variability of nature appears as a 
perennial cause of profits and losses. 

There is every indication that progress in the technique 
of production is gradually lessening man's dependence upon 
nature's moods even in the extractive industries. In farm- 



PROFITS FROM NEW LANDS 133 

ing increased ability to foresee weather changes, artificial 
irrigation and a host of other improvements enable the cul- 
tivator to surmount natural difficulties which would at one 
time have been fatal to success. In water navigation even 
greater advances have been made, since steam vessels are 
now well-nigh indifferent to all but the severest storms. 
This progress will doubtless continue, but for many gen- 
erations the industries which at some points depend upon 
variable nature will show profits or losses as natural con- 
ditions are favorable or the reverse. 

Side by side with the progress made in counteracting 
unfavorable natural conditions, there has been a develop- 
ment of the business of insurance, by means of which losses 
due to accidental causes which used to fall with crushing 
force on the individuals affected are borne by whole groups 
of individuals. Insurance thus substitutes for the uncer- 
tain prospect of profit or loss the certainty of somewhat 
higher expenses of production. If it could be developed 
far enough, profits and losses due to the irregularities of 
nature might be entirely eliminated, so far as the individual 
entrepreneur is concerned. 

71. (5) Profits Due to the Exploitation of New Lands 
and Natural Resources. — In a comparatively new country 
like the United States an important source of profit is the 
exploitation of virgin land and new mineral and other nat- 
ural resources. As these resources are opened up and their 
value is demonstrated the incomes to which they give rise 
become subject more and more to the principles determin- 
ing rent. During the early stages of exploitation, how- 
ever, they are too irregular and uncertain to be classified 
as anything else than profits to the enterprising entrepre- 
neurs who devote time and means to their development. 

Profits from this source in a progressive country are sure 
to exceed largely losses due to misdirected investments. At 
the same time it is a debatable question whether in some 
highly speculative ventures concerned with the exploita- 



134 COMPETITIVE PROFITS 

tion of new resources, such as gold mining, more wealth has 
not been wasted in the fruitless attempt to develop paying 
mines where nature has created none, than has been returned 
in profits and rents to the fortunate entrepreneurs who have 
made rich strikes. There is a fascination about searching 
for mineral wealth, and especially for gold, that attracts 
men and capital out of proportion to the likelihood of suc- 
cess in such enterprises, and though it may not be true as 
sometimes alleged that every pound of gold in existence has 
cost on the average more than it is worth, this certainly 
approximates the truth. 

72. (6) Profits Due to Modifications in the Rates of 

Remuneration of Other Factors in Production Thus 

far in our analysis of profits we have assumed that the 
rents, wages and interest rates that entrepreneurs must pay 
are fixed by general market conditions and may not be 
changed by individual entrepreneurs. This is true in so 
far as general market conditions remain stable, but when 
these are changing, as they usually are in developing coun- 
tries, when new lands are being brought under cultivation, 
when the population is growing and when capital is in- 
creasing, then rents, wages and interest rates must change 
too, and there is opportunity for enterprising entrepreneurs 
to hasten or resist general tendencies and in this way to 
secure for a time profits above the wages of management. 
A few examples will indicate how profits may arise from 
these sources. 

One change that has been going on in the United States 
for several generations is the lowering of agricultural rents 
in the Eastern States as new lands have been developed in 
the West. Aggressive farmers of rented farms have taken 
the initiative in demanding better terms as economic con- 
ditions have made a fall in rents inevitable. By so doing 
they have avoided the losses that their less progressive 
neighbors sustain by consenting to renew their leases on 
the same terms as before. In other sections, where rents are 



CONCLUSION 135 

rising the more aggressive tenant farmers refuse to pay 
more until actually compelled to, and in this way keep their 
expenses below those of their more tractable neighbors. 

Similarly there have been general movements in the wages 
that competition secures for different grades of labor. 
When wage rates are rising, it is usually possible for some 
entrepreneurs to resist the movement for a time and in this 
way to keep down their expenses, without losing any con- 
siderable number of their employees. Eventually they must 
accept the higher rates or lose their men, but during the 
interval that they refuse to do so, they may reap an extra 
profit. On the other hand, aggressive entrepreneurs lead 
the movement to reduce wages when rates are tending 
downward and may in this way cut down their expenses 
sooner than their competitors, who receive no higher prices 
than they do for their products. In agreements as to 
rates of interest there is less chance for overreaching be- 
cause those who lend and those who borrow are about equally 
conversant with the conditions. At the same time even here 
some entrepreneurs gain an advantage when rates are 
changing by making better terms than their competitors. 

In all of these cases prompt adaptation to favorable 
conditions or grudging acceptance of unfavorable changes 
only at the eleventh hour, gives rise to profits. Failure to 
cut down expenses as occasion offers or too ready ac- 
quiescence in rising expenses may, on the other hand, cause 
losses. 

73. Conclusion. — In this brief discussion of the causes 
of competitive profits it has been possible to indicate only 
the more important of the many circumstances which give 
rise to them. The financial columns of every newspaper 
teem with items illustrative of the general causes of 
profits that have been described and suggest others to 
which no reference has been made. In connection with all 
of these causes of profits the essential principle to note is 
that they originate in change and are important because it 



136 COMPETITIVE PROFITS 

takes time for competition to adjust economic relations to 
changed conditions. 

If industrial society is progressing and if in each period 
there is more wealth to be divided among the sharers 
in distribution than in the preceding period, a large part of 
the increase will appear temporarily as extra profits going 
to entrepreneurs. In the same way, when industrial society 
is retrogressing the loss falls first upon entrepreneurs. 
Theirs is the elastic share that increases or diminishes 
readily in response to changed conditions, But whether 
the net balance happens to be above or below the wages of 
management, competition among entrepreneurs themselves 
is a force which tends constantly to make their gains cor- 
respond to bare wages. Profits stimulate them to bid 
against one another for the factors of production and to 
raise rents, wages and interest rates until expenses and 
prices are again equal. Losses lead them to contract pro- 
duction and cut down expenses until in this way equality is 
restored. Thus, however large profits or losses may be at 
any given time, they are always in process of extinction, 
always, that is, unless monopoly influences intervene and 
prevent the forces of competition from accomplishing their 
work of elimination. 



REFERENCES FOR COLLATERAL READING 

* Seligman, Principles of Economics, Chap. XXIII.; * Carver, 
Distribution of Wealth, Chap. VII.; * Fetter, Principles of Eco- 
nomics, Chap. XXXI. ; * Bullock, Selected Readings in Economics, 
Chap. XII.; * Marshall, Principles of Economics, Book VI., Chaps. 
VII. and VIII.; * Pierson, Principles of Economics, Vol. I., Part I., 
Chap. V. 



CHAPTER IX 
DISTRIBUTION: MONOPOLY PROFITS 

74. Monopoly Contrasted with Differential Advan- 
tages in Production. — Monopoly means usually in eco- 
nomics such control over the supply of an economic good as 
enables the monopolist to regulate its price. This definition 
refers to producers* or sellers' monopolies. Contrasted 
with these are buyers 9 monopolies, which rest on con- 
trol over the demand and the regulation of prices from 
that side. In practice buyers' monopolies are so unusual 
that only brief consideration is given to them in this 
treatise. 

A distinction which it is important to note at the outset 
is that between monopoly and differential advantage. In 
nearly every branch of competitive business differential ad- 
vantages are found. In farming one producer of wheat 
uses better land than another producer. In manufacturing 
one mill owner utilizes a superior source of water power. 
In all pursuits competitors are themselves differently en- 
dowed, some being more capable than others and receiving 
larger returns, while all are selling the same goods in the 
same markets at the same prices. Although important 
sources of income, such differential advantages are not the 
cause of monopoly profits. The fact that some pieces of 
land and some sources of power are better than others, does 
not prevent an active competition among farmers and 
manufacturers which tends to keep prices down to the 
expenses of production of representative firms. Equally 
ineffectual as a bar to active competition are the personal 
differences among men. The consideration of the influ- 

137 



138 MONOPOLY PROFITS 

ence of these differential advantages upon the distribution 
of incomes, belongs under the head, not of monopoly, but 
of rent and wages. Only when competition is interfered 
with and one firm or a combination of firms secures such 
control over the supply that it may regulate the price, does 
monopoly appear. Its essence is control over the supply 
and its surest indication is regulation of prices. 

75. A Classification of Monopolies The principal 

classes of monopolies which are of interest to the economist 
are: (1) personal monopolies; (2) legal monopolies, which 
may be (a) public or (b) private; (3) natural monopolies 
of situation; (4) natural monopolies of organization; (5) 
capitalistic monopolies; (6) labor monopolies. 

A personal monopoly arises when one individual controls 
the supply of a given good, either because he possesses 
unique talent (e. g., an artist's monopoly of his own 
works), or because he uses a secret process so superior 
to all other processes that he is able to drive all 
competitors from the field. A legal monopoly is one 
based upon some law or governmental privilege. Ex- 
amples of public legal monopolies are furnished by the 
tobacco monopoly of France, the salt monopoly of Saxony 
and the post-office monopoly of the United States. The 
most familiar private legal monopolies are those based on 
patents, copyrights and exclusive franchises. Natural mo- 
nopolies of situation are of two kinds: those due to social 
and those due to physical conditions. Of the first kind are 
the monopolies which the single village blacksmith and 
storekeeper enjoy until competitors enter the field. More 
important are monopolies of the second kind, which depend 
upon some physical limitation in the sources of supply of 
the goods controlled. Of this type are businesses using 
unique mineral springs or mountain passes, or controlling 
the whole areas from which certain commodities, such as 
diamonds in Africa or anthracite coal in the United States, 
are obtained. Natural monopolies of organization are 



CLASSIFICATION OF MONOPOLIES 139 

businesses which obey a law of diminishing expense, no mat- 
ter how large the business becomes. Such are the railroad 
and businesses concerned with the distribution of letters, 
telegrams, parcels, gas, water and electrical power. Capi- 
talistic monopolies are those which result from the un- 
hampered power of large aggregations of capital and are 
represented in the United States by the so-called trusts. 
Labor monopolies are monopolies resulting from combina- 
tions of skilled workmen able to control the supply of the 
economic good, labor. 

When all of the businesses in a country like the United 
States which may properly be classed under one or other 
of the above heads are considered, the importance of 
monopoly is more likely to be exaggerated than under- 
rated. Personal monopolies are encountered in connection 
with all artistic and professional work. Although not usu- 
ally the ground for very large incomes in individual cases, 
they exert in the aggregate a considerable influence on the 
distribution of wealth. Secret processes are not at present 
the source of very great monopoly returns but only 
because those who control such processes usually prefer 
to have their monopolies confirmed by patent. The number 
of patented processes now used in connection with business 
enterprises may be inferred from the fact that from 1836 
to 1908 the United States issued as many as 875,679 
patents. Although the monopolies to which patents give 
rise are only temporary, in a country in which processes 
are so soon superseded as they are in the United States, 
they serve to give a monopolistic character to nearly every 
branch of manufacturing business. Businesses enjoying 
exclusive franchises are less common, but on the other hand 
they include some of the branches of production that are 
most vital to the general well-being such as water, gas and 
street railway companies. Natural monopolies of situation 
are not as yet very important, but they appear to be on the 
increase. A few years ago the suggestion that a single 



140 MONOPOLY PROFITS 

corporation could monopolize the iron-ore and coking-coal 
resources of the United States would have been greeted with 
incredulity. Such a consummation has not yet been realized 
by the Steel Trust, but its progress in that direction must 
make economists hesitate to impose any limits upon the pos- 
sible development of natural monopolies of this type. The 
importance of natural monopolies of organization, which 
embrace the chief transportation businesses of the country, 
can hardly be exaggerated. Upon them all other businesses 
are vitally dependent, and this dependence increases rather 
than decreases as production becomes more concentrated 
and the division of labor is made more minute. Finally, the 
capitalistic monopolies and the labor monopolies, which are 
among the latest fruits of the country's industrial develop- 
ment, merit all of the attention that has been accorded to 
them. If these various monopolies were quite unhampered 
in their control over the prices of the goods they produce 
the present might well be styled the age of monopoly rather 
than the age of competition, but fortunately control over 
prices is rarely unhampered. 

76. Limitations on Monopolistic Control over Prices. — 
The most important limitations on the power of a monop- 
olist to regulate prices are three: (1) the possibility open 
to buyers of substituting other goods for those which are 
monopolized, (2) the possibility of competition which may 
deprive the monopoly of its control over the supply, (3) 
the possibility of legal interference. Taken together these 
three limitations confine the price-making power of mo- 
nopolies within rather narrow limits and explain the fact 
that their practical operation is so much less harmful to 
the interests of consumers than contemplation of the nature 
of monopoly would lead one to expect. 

The limitation imposed by the power of substitution de- 
pends upon the range of substitute goods open to buyers. 
A few examples will make this clear. Suppose that the 
monopolized good is a particular kind of wine. Substitutes 



LIMITATIONS ON MONOPOLY 141 

for it are all other kinds of wine, all other kinds of liquors, 
even all other kinds of comforts and luxuries so far as wine 
itself is in this category. An attempt to increase the price 
would under such circumstances greatly reduce the amount 
of wine of the particular brand that could be sold. Un- 
less it had especially endeared itself to the palates of 
consumers, a comparatively small increase in its price would 
spoil its market. The attempt to double the price might 
even divert the entire demand to other goods. In such a 
case the effort to win more than a small margin of mo- 
nopoly profit from consumers would be fatal to the interests 
of the monopolist. 

Again, suppose refined sugar to be the monopolized 
product. The customary price for this good is so low as to 
encourage its general consumption, and it is now looked 
upon by nearly everyone as a necessary of life. Moreover, 
substitutes for it, such as raw sugar, molasses, maple syrup, 
etc., are few and unsatisfactory. The range for substitu- 
tion is so narrow in this case that the monopolist may make 
considerable changes in the price without seriously affect- 
ing the demand. In fact, if the price is raised the demand 
for other articles is more likely to be curtailed than the 
demand for sugar itself. Under such circumstances the 
conditions as regards the possibility of substitution are 
peculiarly favorable to monopoly profit. Fortunately for 
consumers they are less favorable as regards the possibility 
of competition. 

Take, finally, the case of a railroad which furnishes the 
only available outlet to the market for a given district. Its 
rate-making is not controlled by competition in the ordi- 
nary sense, but its patrons have always the alternative of 
not prosecuting the industries whose products must be 
shipped to the distant market. Their power of substitu- 
tion is that between producing for rail shipment and devot- 
ing their land, labor and capital to other production. In 
practice this is a very important limitation, since the 



142 MONOPOLY PROFITS 

economical administration of a railroad demands a large 
volume of traffic, and a road cannot afford to make its 
rates so high that only a few trains will be run over its 
costly roadbed each day. At the same time in many locali- 
ties this limitation is not sufficient to insure reasonable 
rates, and legal interference has been found necessary to 
protect the interests of the public. 

The possibility of exciting competition and losing con- 
trol of the supply is an ever-present danger to capitalistic 
monopolies and in less degree to personal, and natural 
monopolies of organization. How true this is of capi- 
talistic monopolies has been illustrated over and over 
again in the history of the trusts in the United States. 
That the monopolies of the village blacksmith, village 
grocer, etc., are likewise insecure for this reason is too 
obvious to require proof. 

Natural monopolies based on the law of diminishing ex- 
pense are subject to the same check. For example, in the 
railway business, while it is true as a general statement that 
one company can carry freight and passengers between two 
points more cheaply than could two companies dividing the 
traffic between them, it is also true that the difference is 
not so great that unduly high rates charged by the first 
company will not induce capitalists to construct a parallel 
road to compete for the business. Such competition is al- 
most always uneconomical from the social point of view, but 
the history of railroad building in the United States is full 
of evidence to show that it frequently springs up and acts 
as a limitation on monopoly. 

The last limitation referred to, that is, the possibility of 
government interference, applies especially to natural and 
capitalistic monopolies. In the case of the former it is 
coming to be recognized more and more fully that competi- 
tion cannot be relied upon to regulate the businesses af- 
fected and that government interference or government 
regulation is the only alternative. How far this conviction 



THE LAW OF MONOPOLY PRICE 143 

has found expression in law is considered in Chapter XXI. 
in connection with the discussion of efforts to regulate 
railroads in the United States. Government interference 
with capitalistic monopolies or trusts has been attempted 
also in the United States through the so-called anti-trust 
acts considered in Chapter XXII. 

Summing up these considerations in reference to limita- 
tions on monopoly, we may conclude that the possibility 
that other goods may be substituted for the monopolized 
product applies to all monopolies, but with a force varying 
in each case with the range of substitutions open to con- 
sumers. The possibility of competition threatens all ex- 
cept personal monopolies of ability, legal monopolies and 
natural monopolies of location. Legal interference, finally, 
has actually been applied to natural and capitalistic mo- 
nopolies. These three limitations serve as effectual checks 
on the reckless exercise of monopoly power. Only when 
the range of substitutions open to consumers is narrow 
and the obstacles which competitors must overcome, in order 
to enter the field, formidable, does monopoly present a seri- 
ous problem or is legal interference necessary. 

77. The Law of Monopoly Price. — Monopolists, so far 
as they are free to obey the dictates of self-interest, tend 
to fix those prices for their products which will yield the 
largest monopoly profits. Just what this means may be 
made to appear from a simple illustration. 

Consider the case of a patented article in general use, like 
a special brand of soap. As a rule the expense of produc- 
ing such an article diminishes as the number of units pro- 
duced increases. On the other hand, in accordance with 
the familiar law of demand, as the number of units offered 
for sale is increased the price that can be secured for each 
unit decreases. Suppose that the volume of sales at differ- 
ent prices, the expense of production per unit for these 
different quantities sold and the monopoly profits received 
are as represented in the following table: 



144 MONOPOLY PROFITS 





No. of 


Gross 


Expense 


Gross 




D rice 


Cakes Sold 


Receipts 


per Cake 


Expenses 


Profits 


50c 


100,000 


$ 50,000 


12c 


$ 12,000 


$ 38,000 


40 


130,000 


52,000 


11 


14,300 


37,700 


30 


200,000 


60,000 


10 


20,000 


40,000 


25 


400,000 


100,000 


8 


32,000 


68,000 


20 


600,000 


120,000 


7 


42,000 


78,000 


15 


1,000,000 


150,000 


6 


60,000 


90,000 


10 


2,500,000 


250,000 


5 


125,000 


125,000 


9 


3,000,000 


270,000 


4f 


145,000 


125,000 


8 


3,500,000 


280,000 


4f 


165,000 


115,000 


7 


4,000,000 


280,000 


4f 


185,000 


95,000 


6 


6,000,000 


360,000 


n 


270,000 


90,000 


5 


10,000,000 


500,000 


*t 


437,500 


62,500 


H 


14,000,000 


595,000 


*i 


595,000 





A study of this table shows that on the conditions as- 
sumed the price that affords the maximum monopoly profit 
is somewhere between nine and ten cents. Until the price, 
ten cents, is reached the larger volume of sales and dimin- 
ishing expense per unit more than counterbalance the loss 
due to lowering the price. Below nine cents the loss in 
price is no longer offset by these other factors, although 
they continue to operate, and consequently profits decline. 
As this table indicates monopoly price does not necessarily 
mean extravagantly high price. In this example the price 
most advantageous to the monopolist is about double the 
expense of production. In actual practice the margin of 
monopoly profit is apt to be even smaller than this except 
for goods the demand for which is quite inelastic. 

When a monopolist enjoys exclusive control of the mo- 
nopolized good, he may fix the price at the point affording 
the maximum profit without fear of exciting competition. 
But few monopolists are so fortunately situated as this 
implies. Competition, even though not in active operation, 
is an ever-present possibility with which most monopolists 
must reckon. Prudence dictates usually a more conserva- 
tive policy in reference to prices than that which would 
secure for the time being the largest monopoly profits. In 
the assumed case the price of soap is likely to be fixed at 
something less than nine cents, in the expectation that the 



CONCEALING MONOPOLY PROFITS 145 

present loss in profits will be more than made good by the 
protection of the monopoly from future competition that 
it insures. In the same way fear of governmental regula- 
tion often checks the rapacity of monopolists long before 
such regulation is actually undertaken. The law of mo- 
nopoly price thus indicates the extreme limit to which 
monopolists are likely to go in fixing prices and not neces- 
sarily the price that they will actually charge under the 
practical limitations which control their conduct. 

78. Methods of Concealing Monopoly Profits. — 
Monopoly profits have never been looked upon with favor 
in the United States. Even the suspicion that they were 
being enjoyed has sufficed often to disturb the conditions 
which made them possible, either because consumers have 
combined to boycott the monopolized good or because the 
government has interfered. Under such circumstances it 
has been but natural for monopolists to devise numerous 
expedients for concealing their real earnings. 

For personal monopolies, to deceive the public as to the 
profitableness of business activity is an easy matter, but it 
is less so for corporations with monopoly powers. How- 
ever secretive the latter may be in regard to their methods 
of doing business, they are compelled, on sharing their 
earnings among their stockholders, to disclose the amount 
of these earnings to a number of persons. The stock of a 
small corporation may be so narrowly held that secrecy even 
in reference to dividends is possible, but this is rarely the 
case with large corporations. The latter can conceal their 
profits only by distributing them in other forms than 
dividends to stockholders, or by inflating their capitaliza- 
tion so that large dividends may be paid without exceeding 
a moderate rate of return on the nominal capital. A few 
words may be said about each of these methods. Directors 
may expend surplus earnings for additional equipment, 
patents or other property at greatly inflated valuations. 
By this means monopoly earnings are diverted to the owners 



146 MONOPOLY PROFITS 

of the properties purchased, who may be the directors 
themselves or their friends. This method may conceal the 
monopoly profits even from the stockholders, who continue 
to receive only moderate dividends. Somewhat similar, and 
even more common, is the practice of dividing monopoly 
profits among the higher officials of the monopolistic corpo- 
ration in the form of large salaries. It is a familiar fact 
that monopolies are good employers. They frequently pay 
wages above the competitive rates even to their ordinary 
workmen. To some extent, and perhaps fully as regards 
the lower grades of labor, this policy is justified by the 
better service that it secures. It is not, however, confined 
to the ordinary grades of labor, but applies in extreme 
form to salaried officials. These men are in a position to 
bring influences to bear on boards of directors to have 
their salaries increased to much more than they could hope 
to earn if they were engaged in competitive industries. 
Sometimes they are themselves large stockholders in the 
enterprises which they manage; at others their knowledge 
of the business may be valuable to the corporation because 
they are in possession of secrets which it would be highly 
disadvantageous to have made public. To insure their con- 
tinued loyalty to the interests of the monopoly they must 
be well paid for their services. On these and other grounds 
monopoly profits are often hidden in salaries much above 
what entrepreneurs directing competitive businesses could 
afford to pay for similar grades of service. 

The most common expedient of all for concealing profits 
is the practice of inflating the capitalization of the corpo- 
ration. Where a business is organized by shrewd men who 
foresee its monopolistic possibilities, it is usual to start 
with a grossly inflated capitalization. In the railway busi- 
ness, for example, it has not been unusual to secure all of 
the capital required by the sale of bonds and to distribute 
the stock as a pure bonus. Industrial combinations as or- 
ganized in the United States accomplish the same result by 



CONCEALING MONOPOLY PROFITS 147 

putting out preferred stock equivalent to the actual capital 
invested in the business and an equal or even larger amount 
of common stock as a bonus. In these and other ways the 
nominal capital of an enterprise may be made from the first, 
two, three or even five or ten times the amount actually 
invested in it. Such an arrangement permits directors to 
distribute very large profits as dividends on the nominal 
capital without exceeding the ordinary rate of interest. 

It often happens, even when large monopoly earnings 
are anticipated, that the nominal capitalization is not made 
large enough to conceal them. In such cases, and in the 
more usual cases in which actual and nominal capitalization 
start together, the practice of " watering " stock to con- 
ceal excessive earnings is frequently resorted to. This con- 
sists simply in issuing new stock for which no equivalent 
investment is required. It may be accomplished by means 
of a stock dividend, each shareholder being given an 
amount of new stock proportional to his original holding ; 
or by the issue of new stock for subscription at a nominal 
price, subscriptions being open only to shareholders, di- 
rectors or other favored investors. By these means the 
nominal capitalization may be expanded to keep pace with 
earnings and to permit the distribution of the latter with- 
out any apparent increase in the dividend rate. 

The above ways of concealing monopoly profits have been 
resorted to so generally by monopolistic corporations in 
the United States that the casual reader of the reports of 
some of the most successful of these enterprises would never 
suspect that their earnings were larger than those of com- 
petitive businesses. To show that they are so in fact re- 
quires a full knowledge of the operations of such corpo- 
rations from the time they were first organized. In most 
cases such knowledge is confined to those most interested to 
keep it secret and in consequence it is rarely possible for 
an impartial investigator to determine what part of the 
earnings of a monopolistic enterprise represents a fair in- 



148 MONOPOLY PROFITS 

terest on the capital actually invested in it and what part 
monopoly profit. 

79. Current Misapprehensions in Regard to Monop- 
olies. — There is a widespread impression in the United 
States that monopolies are always and unalterably opposed 
to the public interest. This is based partly on experience 
of the bad phases of monopoly and partly on the teachings 
of jurists and economists. American courts uniformly 
declare monopoly, except that created by the government 
itself in the exercise of its constitutional powers, illegal. 
Economists are equally prone to characterize monopoly as 
abnormal and to extol an industrial system of free, all-sided 
competition as that best calculated to promote the general 
interest. There is, of course, good reason for this distrust 
of monopoly, but if the analysis we have given of the differ- 
ent kinds of monopolies and of the restraints under which 
they exercise their powers is accurate, it ought not to be 
extended to all without qualification. For some industries 
monopoly is not only as normal and inevitable as is com- 
petition for other industries, but it is the form of organiza- 
tion that best serves the public interest. Natural monop- 
olies of organization, for example, are monopolies because 
as such they can produce more economically than could 
competing firms. For them the monopoly form of organ- 
ization is the desirable form, which should be encouraged 
rather than discouraged by those who have the public 
interest at heart. 

Another misapprehension that is current is that mo- 
nopoly always means large monopoly profits. That this is 
not the case is evident when it is remembered how many 
patented articles, in connection with which the government 
itself undertakes to protect the producer in his monopoly, 
are regularly produced at a loss. Many other conditions 
in addition to control over the supply of the good produced 
are necessary to make production profitable. When all 
the conditions are favorable, large monopoly profits, of 



MONOPOLY PROFITS AND OTHER SHARES 149 

course, may be and often are secured. But the power 
that consumers possess of substituting other goods for 
those monopolized and the danger that competition will be 
excited are ever present forces which confine monopoly 
profits in most businesses within narrow limits. 

80. The Influence of Monopoly Profits on Other Shares 
in Distribution. — In this treatise monopoly profits are 
discussed independently of the other shares in distribution, 
not because they are considered abnormal or even unusual, 
but because it is easier to trace their influence when they 
are studied in isolation. In actual industrial society com- 
petitive and monopolistic enterprises are carried on side by 
side and act and react upon one another. The influence of 
monopoly profits on the other shares in distribution should 
be briefly indicated before we turn to a discussion of the 
competitive shares of income — rent, wages and interest — 
treated in the following chapters. To secure monopoly 
profits monopolists must fix the prices of their goods above 
their expenses of production. In the example given in an 
earlier section the largest monopoly profit was secured 
when a price between nine and ten cents was fixed for the 
patented soap. The expenses of production for the 2,500,- 
000 cakes that could be sold at ten cents averaged only five 
cents, so that the effect of the monopoly was to make the 
price nearly double what it would have been had competi- 
tion had free play. To maintain the price at ten 
cents the monopolist must, of course, limit production to 
the 2,500,000 cakes which the public will take at that 
figure. If competition forced him to lower the price to six 
cents he could produce and sell, according to the conditions 
of the illustration, 6,000,000 cakes. At the price corre- 
sponding exactly to the expenses of production, four and 
one-quarter cents, he could sell more than double this 
product. The effect of monopoly is, accordingly, to reduce 
the amount of the monopolized good that is produced and 
sold below what it would be under conditions of free, all- 



150 MONOPOLY PROFITS 

sided competition. Only through such reduction or cur- 
tailment of the supply can the coveted monopoly profit be 
secured. But reducing the output of the monopolized good 
involves the employment by the monopolistic enterprise of 
less land, labor and capital than would be needed in the 
same branch of production if competition had free play. 
The effect of monopoly is thus to increase the supplies of 
the factors of production which must find employment in 
competitive industries. What influence this mal-distribu- 
tion of the factors of production is likely to have on the 
shares of income, rent, wages and interest, can only be ex- 
plained after we have considered how these shares are de- 
termined. Such influence is of course supplementary to 
the tax on all consumers who buy monopolized products, 
resulting from the enhancement of their prices. 

The phases of the monopoly problem that have assumed 
greatest importance in the United States concern legal and 
natural monopolies, trusts and labor monopolies, and these 
are treated at some length in later chapters (XVIII., 
XX., XXI. and XXII.). The reader will find in them 
many concrete details and illustrations which, out of con- 
sideration for space, have been omitted from the preceding 
sections. 

REFERENCES FOR COLLATERAL READING 

* Marshall, Principles of Economics, Book V., Chap. XIII.; * Ely, 
Monopolies and Trusts, Chaps. I.-IV.; * Bullock, Introduction to the 
Study of Economics, Chap. XL; * Fetter, Principles of Economics, 
Chap. XXXIII. 



CHAPTER X 
DISTRIBUTION: RENT 

8 1. Definition of Rent. — In contrast with competitive 
and monopoly profits, the shares in distribution now to be 
discussed — rent, wages and interest — are regular and per- 
sistent. Their payment is not due to the absence of com- 
petition or its failure to work out its full effects, but is the 
direct consequence of the activity of competitive forces. 
In fact the keener and more general competition is, the 
more certain and definite these shares become. For this 
reason, in explaining them, we may disregard the factors 
making for change and monopoly, which play the major 
role in determining profits, and confine attention to the 
division of the money income when prices are normal and 
just equal the expenses of production to representative 
firms. The same influences which determine rent, wages 
and interest under these conditions, determine them also 
in actual industrial society where market diverge from 
normal prices and entrepreneurs realize profits or losses in 
consequence. 

Rent may be defined as the share of income that goes to 
owners of land, sources of water power and other gifts of 
nature which assist production, as compensation for the 
use of these factors. Needless to say, it is only paid for 
the use of factors which are limited in supply in compari- 
son with the demand for them and therefore in the cate- 
gory of economic goods. When land is leased, rent is 
actually paid to the owner. When it is used by the 
owner, it is an element in the gross returns from his busi- 
ness, economically distinct from the other elements. 

151 



152 



RENT 



82. The Different Grades into Which Land may be 
Divided. — The source of rent has already been indicated 
(Section 37). As has been shown, land and natural pow- 
ers assist production unequally in different situations and 
rent is what entrepreneurs pay for the use of superior 
land and sources of power to equalize conditions. 

In a country like the United States land is divided up 
into hundreds of different grades to be applied to as many 
different productive uses. To simplify the explanation we 
will assume that these different uses of land may be in- 
cluded under five heads as follows : Grade A, sites for city 
stores ; Grade B, sites for city residences ; Grade C, truck- 
farming plots; Grade D, wheat land; Grade E, grazing 
land. The relation among these different grades of land 
may be represented without great inaccuracy as that 
among the areas enclosed between concentric circles, as in 
the following figure : 




At the center, A, is the land devoted to store sites, which 
is economically the most important use. For purposes of 
trade central situations must be selected. These are also 



DIFFERENT GRADES OF LAND 153 

desirable for residence purposes, but inasmuch as a resi- 
dence site serves but one family, while a store site serves 
many families of customers, the store use triumphs. 

Next to the store sites in a city are residence sites, B, 
which, other things being equal, are desirable in propor- 
tion to their nearness to the business centers. Many lots 
are just on the borderland between these two uses. It is 
just worth while for storekeepers to pay a little higher 
rent for them than they command as residence sites, or not 
quite worth while. 

Beyond the residence sites are plots devoted to truck- 
farming, C. In every city the line is somewhat roughly 
drawn between these two grades, and some land is found 
in a transition stage which may be had for truck-farming 
at a very moderate rental on condition that the lease shall 
be terminable at the will of the owner. Lots in this sit- 
uation are the borderlands between grades B and C. 

All land good enough and near enough to a market to 
be used for truck-farming might be used for the cultiva- 
tion of some staple crop, like wheat. That it is not is 
proof that truck-farming causes it to yield a higher rent 
than would wheat-farming. Trucking is economically a 
more important use, chiefly because green vegetables will 
not stand distant transportation as will wheat and other 
staples. On the outer circumference of the belt of land 
devoted to truck-farming will be found acres which it does 
not quite pay to use for this purpose and which are culti- 
vated extensively for some staple crop. These are the 
borderlands between grades C and D. 

The transition from arable farming to grazing occurs 
similarly at the outer circumference of the lands devoted 
to the growing of wheat. Land too remote or too poor 
to be sowed with a wheat crop is yet well adapted to the 
grazing industry and may afford a moderate rental in 
comparison with the land still more remote and still poorer 
which it barely pays to devote even to this economically 



154 RENT 

least important industry. Beyond this last land at the outer 
circumference of the grazing belt is still more land, F, 
that in the country's present stage of industrial develop- 
ment is economically useless and therefore valueless. Under 
the Homestead Acts lands of this grade may be had almost 
free of charge from the government. Practically speak- 
ing, it is no-rent land, and so long as any considerable 
amount of it remains open to settlers it furnishes a no-rent 
margin from which all rent is calculated in the manner 
described below. 

In this classification more attention has been given to 
situation than to fertility or other qualities as a guide to 
grading lands, because it is the phase of the subject most 
apt to be neglected. The reader scarcely needs to be re- 
minded that the other qualities enumerated in Chapter IV. 
are quite as potent factors as situation in determining 
where a piece of land belongs in the economic scale. In 
the case of lands whose products are of high value in pro- 
portion to their bulk, situation counts for little in compari- 
son with the richness of the source of supply. This is 
illustrated by the fact that the gold resources of the Klon- 
dike are being exploited nearly as rapidly, notwithstand- 
ing the remoteness of the region, as those of Cripple Creek. 

83. Causes Determining the Amount of Rent. — To the 
successive grades of land that have just been described 
the reader must oppose in his imagination the market for 
the goods which land and the other factors of production 
unite to produce. First comes the demand for lots for 
business purposes. Entrepreneurs appreciate the impor- 
tance of location as a condition to business success. The 
best sites are eagerly taken and, as the community grows, 
new lots are each year withdrawn from their old use as 
residence sites because business men are willing to pay a 
little more rent for them. Improvements on the land in- 
terfere somewhat with the free play of this tendency, but 
even the most substantial buildings decay in time and if a 



CAUSES DETERMINING RENT 155 

broad view be taken there will be found enough plots to 
pass each year from use as residence sites to use as store 
sites to maintain a practical equilibrium. Different kinds 
of businesses, railway transportation, wholesale and retail 
trade, banking, etc., require lots in different situations, 
and all such differences have their influence on rents. We 
shall not be far wrong, however, in assuming that business 
men require centrally located lots, the lots embraced in the 
inner circle, A, in the figure. In deciding what rent he 
can afford to pay for a given store site, the entrepreneur 
never thinks of comparing it with farming land on the out- 
skirts of the city. He knows that unless he establishes 
himself within a limited area he might as well not go into 
business. To him marginal lots are not those on the out- 
skirts of civilization which he could get for nothing, nor 
even those on the outskirts of the town whose rent is low, 
but the choice residence lots on the border between grades 
A and B, for which he must pay a high rent because of the 
demand for them for residences. To this marginal rent, 
which all entrepreneurs must pay for lots in A, is added a 
differential rent for the better lots corresponding to their 
superiority. The choicest lot of all yields the highest 
rent, and this is what it adds to the returns of a repre- 
sentative firm for a given outlay in wages and interest in 
that line of business which depends most on situation for 
its success, retail trade. The practical determination of 
this rent is a matter of considerable difficulty, and it is 
doubtful if the exact competitive rent is ever paid for 
such a piece of land. Something approximating this 
amount is paid, however, or is charged to the account of 
rent by the entrepreneur who owns the site on which his 
business is located. From this maximum the rents of in- 
ferior lots decrease to the marginal rents which those on 
the border command. In each case rent figures as one of 
the expenses of production which the practical business 
man counts on recovering in the price. 



156 RENT 

The determination of the rents of residence lots is ef- 
fected in exactly the same way. From the highest rent of 
the best lot, which corresponds to the lowest rent for a lot 
of grade A land, to the highest rent truck-farmers are 
willing to pay for border lots between B and C, there 
is the same gradual descent, influenced in this case by 
calculations of utility rather than of business returns. 
To the extent that personal considerations weigh more 
in the choice of house-sites than in the choice of busi- 
ness locations, these calculations of utility are variable, 
but when we are considering the thousands of people 
of each social class that make up a city population 
these personal eccentricities neutralize one another and 
may be disregarded. For those who reside in cities 
as well as those who do business there the choice is not 
between rent and no-rent, but between high rent and 
marginal rent. Lots to be had for nothing are so far 
away from the places where city dwellers earn their live- 
lihoods that they are worth to them considerably less than 
nothing. 

The rent paid by the truck-farmer, or credited by him 
to his land of grade C, obeys the same principles that have 
been outlined. According to the situation, fertility, etc., 
of the land it pays a rent ranging between that which the 
best truck land affords, the marginal rent for grade B, 
and the rent which must be paid for the borderland be- 
tween C and D to keep it from the wheat farmer, or more 
accurately which as wheat land it would afford. Simi- 
larly the wheat farmer pays a marginal rent to cover 
what the poorest wheat land would be worth for grazing 
purposes. The grazier himself is surrounded by land of 
a still lower grade, F, which is still in the category of 
free goods. This margin is accordingly a no-rent margin 
and the price of his product need under normal conditions 
merely cover the expense for wages and interest on the 
poorest land on which cattle, sheep and horses are raised. 



THE RENT OF MINES 157 

Summing up this explanation, we may say that rent is 
paid out of the prices which the " products of the soil " 
command. The supply of land of each grade, except the 
lowest, being limited, users of land bid against one another 
for different plots. This competition causes land to be 
graded in accordance with its economic importance. The 
rents paid for lots above the lowest grade include a dif- 
ferential element measuring the superiority of the land in 
its grade and a marginal element common to all land of the 
grade. Only grazing land, or land at the bottom of the 
economic scale, commands a rent consisting only of the dif- 
ferential element. It comes into direct comparison with 
free or no-rent land and the small rent it affords meas- 
ures the narrow margin that separates the value of its 
products from the free goods which may be obtained gra- 
tuitously through the use of free land. 

84. The Rent of Mines and Sources of Water Power. 
— In the above explanation of rent attention has been 
confined almost exclusively to land in the narrow sense. 
The rent earned by sources of water power and by mines 
is determined in a similar way, but deserves separate 
consideration. 

The utilization of water power involves usually a con- 
siderable outlay of capital, and hence the marginal powers 
used must afford a large return for interest on the capital 
invested even though they yield no rent. In connection 
with the use of water power situation is also an important 
factor. It is profitable to use the power of Niagara be- 
cause it is surrounded by a rich agricultural and manu- 
facturing country. Much cheaper sources of power are 
not yet utilized west of the Mississippi because other con- 
ditions are not favorable to the development of industries 
to which the power might be applied. From the marginal 
source of power in use, which affords no rent, the rents of 
superior or more favorably located sources of power are 
calculated by the familiar comparative method. Ordina- 



158 RENT 

rily water power is utilized by the entrepreneur who owns 
it, and hence its rent appears only as an item in his private 
bookkeeping. Competing with water power are steam 
power, horse power, etc. The price at which any substi- 
tute power can be obtained for the performance of a given 
industrial task constitutes a maximum above which the 
rent of water power cannot for any length of time be 
maintained. 

The rent of mines is determined in the same way as the 
rent of land, except that the marginal mine is not neces- 
sarily one which affords no rent. Since a mine will not 
renew itself, but by each year's operations is depleted of 
so much of its ore, the rational owner hesitates to work his 
mine when it barely pays expenses. The ore is a valuable 
asset, and the owner is short-sighted who takes it out to 
sell at cost. In practice this consideration is not very 
important. Mining is so uncertain that in nearly every 
branch of the industry mines are operated at cost or even 
at a loss by men who hope that the ore will get richer with 
depth or that the price of the mineral will advance. As 
a matter of fact, therefore, it is usually possible to find 
no-rent mines producing each variety of mineral that 
comes out of the earth. The rent of better mines is meas- 
ured up from them as a no-rent margin. When mines 
are operated under lease the rent is usually calculated as 
a royalty proportioned to the amount of ore actually re- 
moved from the ground. Under this system when mines 
are operated literally at cost in wages and interest, the 
royalty represents an actual loss to the operator. This 
is usually an effectual bar to the operation of no-rent 
mines by other entrepreneurs than those who own them, 
but since the lease system is exceptional rather than the 
rule, this does not prevent the presence of no-rent mines 
in nearly every branch of the mining industry. 

85. Complications in Connection with the Determina- 
tion of Rent. — Thus far in the explanation of rent, we 



COMPLICATIONS TOUCHING RENT 159 

have spoken of land as though it were perfectly graded 
from best to poorest, and have implied that the location 
of a given piece of land in the particular grade to which 
it belongs is a simple matter. There are several well- 
known facts in regard to land, sources of water power and 
mines which are inconsistent with these assumptions, and 
we must now consider whether these facts invalidate the 
explanation of rent which has been given. 

( 1 ) There is not merely one use to which land is applied 
down to a no-rent margin, but several uses. In the United 
States some wheat is probably raised regularly on no-rent 
land and a good deal of corn is so produced. In these 
cases the rents of better wheat and corn lands are meas- 
ured from the no-rent margin just as are those of the bet- 
ter grazing lands. Instead of having one no-rent margin 
we have several, but their collective influence on rent is no 
different from that traced to a single one. 

(2) In farming in the United States the tendency is 
more and more towards the diversification of crops. No 
one crop is raised continuously, but different crops are 
raised in rotation, and the productiveness of the land de- 
pends not upon its yield of wheat or corn or cotton alone, 
but upon its yield of all of the different crops grown over 
a series of years. Although this greatly complicates the 
rent problem it does not change the principles upon which 
rent depends. The tendency is still to devote each piece 
of land to the use for which it is economically best adapted. 
If this is diversified farming, then the average return in 
the different crops in the rotation for a series of years 
must be calculated and made the basis for comparing it 
with other pieces of land. Through the indirect process 
described it will be compared finally with no-rent land on 
the margin, and the surplus return it affords in compari- 
son with no-rent land will be its rent. 

(3) No piece of land yields exactly the same return, 
even though cultivated in just the same way, two years 



160 RENT 

together. The weather is a capricious partner upon 
which every farmer depends, and as a result of weather 
changes large crops are sometimes followed by small crops 
in spite of everything the farmer can do. These varia- 
tions affect rent only by making it less a matter of exact 
calculation and more a matter of approximate estimate. 
Uncertain as is the outcome of each year's farming, the 
average return for a series of years may be foretold with 
a good deal of accuracy. It is these averages that should 
be and are considered in calculating the rent properly 
ascribable to a piece of land. 

(4) Some pieces of land, such as the barren rock of 
particular lots in New York City, are well adapted to one 
purpose, but unsuited to any other. Yet the absence of 
possible substitute uses does not prevent such pieces from 
commanding often very high rents. This is no real excep- 
tion to the theory as explained. The primary cause of 
rent is the demand for land for industrial uses. If the 
possible uses are arranged in a scale in the order of their 
importance, then the best land for the purpose will be 
assigned to use A down to the point where a given piece 
is even better adapted economically — will yield a larger 
return — in use B. The existence of some pieces admirably 
suited for use A which will not serve use B or any other use 
simply lessens the requirements for land for use A that 
will serve use B. The result is a somewhat lower rent mar- 
gin between A and B which communicates itself all along 
the line. Land adapted for one purpose only, if used at 
all, is of necessity devoted to that purpose and affords a 
rent depending upon the way in which it compares with 
marginal land used for the same purpose. 

Space will not permit a discussion of other apparent 
exceptions to the theory and their explanation must be 
left to the reader's ingenuity. In actual industrial society 
the rent problem is complex because new pieces of land are 
constantly being brought into use and old pieces are con- 



RENT AND INTEREST 161 

stantly being assigned to new uses. This makes the cal- 
culation of economic rent at any one time difficult and 
necessitates repeated revisions of the figures. The stu- 
dent who has mastered the underlying principles deter- 
mining rent, however, will have no difficulty in ascribing 
their proper weight to these complicating circumstances. 
86. Rent and Interest on Capital Permanently Em- 
bodied in Land. — The difficulty of distinguishing be- 
tween land and capital in the form of permanent improve- 
ments has already been alluded to. Once made, invest- 
ments of capital in permanent improvements are merged 
in the land, and the incomes they afford obey the prin- 
ciples just laid down in reference to rent rather than those 
about to be explained as applying to interest. For ex- 
ample, consider the return on the investment of capital 
necessary to clear land and prepare it for the first time 
for cultivation. Unless the return promises to be large 
enough to pay the current rate of interest on the invest- 
ment it will not ordinarily be made, but after it has been 
made the cleared land affords an income in no wise con- 
trolled by the amount of the investment. All the labor 
of New England farmers during the seventeenth and 
eighteenth centuries in clearing their farms of stones and 
improving them in other ways did not avail to check a 
rapid fall in the incomes they afforded to their descend- 
ants so soon as they came into competition with the better 
lands of the Mississippi Valley. The abandoned farms of 
New England bear eloquent testimony to the fact that 
interest can be continuously secured only for capital that 
may be withdrawn and reinvested as often as changes 
in industrial conditions make this desirable. So soon as 
capital becomes embodied in fixed and unalterable capital 
goods, the income it affords ceases to obey the principles 
determining interest and becomes subject to the law of 
rent. Most improvements, however, are not fixed and 
unalterable, but wear out and have to be renewed. They 



162 RENT 

require, therefore, a continuous reinvestment of capital, 
which will only be made on condition the income secured 
corresponds with the rate of interest to be obtained in 
other lines of investment. In this indirect way the return 
on perishable improvements is adjusted to the current rate 
of interest. 

87. The Relation between the Rent of Land and its 
Price. — The rent of a piece of land, whether actually paid 
or appearing merely as an item of income in the book- 
keeping of the land-owner, has a determining influence 
on the price that can be secured for it. As an invest- 
ment, land is valued, as is any other form of income- 
producing property, by capitalizing its annual return at 
the current rate of interest. For example, if a given 
piece of land is found by experience to bring in on the 
average a net rent of $1200, and the current rate of in- 
terest is 6 per cent, its price will normally be $20,000, or 
the sum which invested at 6 per cent would yield the same 
return. If the rent is only $600 the price will be only 
$10,000. On the other hand, if, in the first case, the 
rate of interest had been 4 instead of 6 per cent, the price 
of the land would be $30,000. The price of land thus 
varies directly with the amount of its rent and inversely 
with the rate of interest. In a developing country, like 
the United States, the probability is so strongly in favor 
of an increase in rents, especially in the case of city lots, 
that shrewd investors are willing to accept even less than 
the current rate of interest from their investments in 
land. In such cases the present value of a lot may be 
the capitalized value, not of its present, but of its pro- 
spective rent. Land has been on the whole an excellent 
investment in the United States during the last thirty 
years, in part because the rent it affords has so generally 
risen, but quite as much because the rate of interest has 
fallen and the prices of pieces of land have risen even more 
than the rents. The latter point must be remembered in 



SUMMARY OF EXPLANATION 163 

connection with the interpretation of statistics showing 
the growth of wealth. In countries experiencing a declin- 
ing rate of interest there is an appreciation of land and 
other permanent sources of income without any corre- 
sponding change in the ability of these factors to con- 
tribute to general well-being. 

88. Summary of the Explanation of Rent. — In con- 
cluding the explanation of rent it may be well to sum- 
marize the principal points brought out in this chapter 
and Chapter IV. : 

1. Rent is an income which arises in consequence of the 
superior productivity of land above the margin in com- 
parison with that at the margin. 

2. Marginal land for some of the uses to which land is 
put is actually no-rent land. More commonly the mar- 
ginal land for any particular use itself affords a rent 
because, though marginal for the given use, it is above the 
margin for some other use to which it might be applied. 
Rent is thus composed usually of a differential and of a 
marginal element. The former is an expense of produc- 
tion only to entrepreneurs using superior land for the 
given purpose, but the latter must be paid by all entre- 
preneurs engaged in the given branch of production and 
hence figures as an element in the normal expense of 
production. 

3. In addition to the extensive margin there may be, 
and usually is, an intensive margin, that is, a use of land 
resulting from an additional investment of labor and cap- 
ital on it which affords no rent. The intensive margin of 
cultivation is always a no-rent margin. 

4. Rent is measured by the method of differences start- 
ing from the no-rent land margin and proceeding from 
grade to grade until the best and most favorably situated 
lot for the purpose that is economically most important 
is reached. In the aggregate it is the money equivalent 
of the surplus product due to the superiority of the land 



164 RENT 

to which it is credited over the poorest land turned to in- 
dustrial account at the no-rent margin. 

5. When best land is superabundant, as is the case in 
some newly discovered and sparsely settled regions, rent 
does not arise. 

6. If the law of diminishing returns did not apply to 
land, it would not arise, as then one piece of land would 
serve all purposes for an indefinitely large population. 

7. The income yielded by permanent improvements on 
land obeys the same law as income ascribable to the land 
itself. 

8. The price of a piece of land, together with permanent 
improvements embodied in it, is calculated by capitalizing 
its net money rent at the current rate of interest. A fall- 
ing rate of interest tends, therefore, to enhance the land 
item in the inventory of a community's wealth. 

It is perhaps unnecessary to point out in conclusion that 
an explanation of rent is a very different thing from a 
justification of its payment to private land-owners. The 
assignment to land-owners each year of hundreds of mill- 
ions of dollars for services which not they but their lands 
render has been vigorously criticized as socially unjust and 
inexpedient. Among the Plans of Economic Reform dis- 
cussed in a later chapter a prominent place is given to the 
remedy for this situation proposed by the late Mr. Henry 
George, the " Single Tax." 



REFERENCES FOR COLLATERAL READING 

* Marshall, Book VI., Chaps. IX. and X.; * Seligman, Principles 
of Economics, Chap. XXIV. ; * Carver, Distribution of Wealth, Chap. 
V.; * Pier son, Principles of Economics, Part I., Chaps. II. and III.; 
Nicholson, Principles of Political Economy, Book II., Chaps. VIII. 
and IX.; /. S. Mill, Principles of Political Economy, Book II., Chaps. 
VI.-IX. and XVI.; * Johnson, Rent in Modern Economic Theory, an 
Essay in Distribution. 



CHAPTER XI 
DISTRIBUTION: WAGES 

89. The Wages Question and What it Involves. — 
Wages, as the term is used in economics, include all earn- 
ings assigned to men for their work, from lowest piece 
wages to highest annual salaries and " wages of manage- 
ment." The problem of explaining such earnings is more 
complex than that of explaining rent because it has to do 
more directly with living men and women. Like the latter 
it involves an explanation of differences in earning power 
among different factors in production. In the United 
States some workers receive as compensation for their 
work not more than forty cents a day, while others are 
paid salaries of $50,000 a year and upwards. Such dif- 
ferences must be accounted for in a theory of wages. In 
the case of rent an explanation of differences in the shares 
assigned to different pieces of land is a sufficient explana- 
tion of the phenomenon because these differences are meas- 
ured from marginal land, which affords no rent.* The 
same is not true in the case of wages. Marginal workmen 
earn something, and after all differences in earnings have 
been explained it still remains to account for marginal or 
least earnings. Another cause of difference between the 
two problems is that while the land supply of a country is 
relatively fixed and unalterable, its labor supply or its 
working population is constantly changing. The continu- 
ance year after year of high rents for certain pieces of 
land and of low rents for others, excites no surprise, but 

* The circumstances which determine the location of the margin of 
cultivation must also be explained, of course. Cf. Chapter XIII. 

165 



166 WAGES 

the continuance of differences in wages seems to need special 
explanation. Why, as generation follows generation, are 
not all men molded through an evolutionary process to one 
common type, so that differences in earning power are 
eliminated? This is a third distinct question presented by 
the wages problem. The present chapter is confined to an 
explanation of differences in rates of wages and of the rea- 
sons for the perpetuation of such differences. The explana- 
tion of the rate of pay that goes to marginal workmen fol- 
lows in the next chapter. 

go. Differences in Wages are Explained like Differ- 
ences in Rents. — Most differences in rates of wages may 
be explained in the same way that differences in rent are 
explained. The demand of consumers calls for the produc- 
tion of certain goods. Entrepreneurs, taught by the in- 
dustrial experience of the past, determine how the available 
productive factors shall be correlated for the purpose of 
satisfying so far as possible this demand. The organiza- 
tion of industry, which results, calls for workers of differ- 
ent capacities for different tasks, just as it calls for dif- 
ferent grades of land. These capacities are graded accord- 
ing to their economic importance, which depends, on the 
one hand, upon the field there is for their exercise and, on 
the other, upon the number of men possessing them that 
are available. Having in mind present methods of produc- 
tion and the present working population of the United 
States, we may distinguish the following five grades of 
workers: (1) men having superior capacity for planning 
and carrying out large industrial undertakings, good ad- 
ministrators and talented artists and professional men; 
(2) men competent to succeed in smaller undertakings or to 
administer large affairs as subordinates, artists and pro- 
fessional men of average ability and highly skilled me- 
chanics; (3) men trained for ordinary clerical or mechani- 
cal labor ; ( 4 ) men without special training, but having the 
requisite strength and endurance for manual labor; (5) 



DIFFERENCES IN WAGES 167 

men lacking some of the mental or physical qualities essen- 
tial to continuous labor of any kind. This classification is 
illustrative rather than exhaustive. To be complete it 
would have to recognize hundreds of different grades of 
productive capacity instead of five, and to be repeated for 
each territorial division of the country. It is intended to 
include only economic men and women, and not the unfortu- 
nate dependents who are incapable even of the humblest 
self-support. 

Just as in the land scale the area adapted by situation 
and other qualities for the most important industrial uses is 
exceedingly limited, so in the scale of workers the number 
of men fitted for the highest grades of labor is very small. 
In each branch of production and in each profession in 
every community some one man is found at the top. 
Unique capacity may not be the only cause of the ascend- 
ency of such men, but unless it is present they will not be 
able for any length of time to hold their positions. Below 
the men of highest capacity for their chosen work are 
others of inferior ability, down to the marginal men in 
the group who find it just worth their while to continue 
to serve in their particular positions rather than to take 
up alternative employments of what we have called grade 2. 
The earnings of the abler men in the group are determined 
by the comparisons that are constantly being made between 
their efficiency and that of the marginal men, who are just 
induced by their pay to stay where they are and not to 
turn to other occupations. Superior men receive the pay 
of the marginal men and in addition a differential corre- 
sponding to their superior efficiency. 

The earnings of workers in the lower grades are deter- 
mined in the same way as those of men in grade 1. Com- 
petition acting through, and also upon, entrepreneurs, 
tends to assign to each worker above the margin in grade 
5, wages made up of both a marginal and a differential ele- 
ment. The marginal element is what the poorest worker 



168 WAGES 

in the group could earn in the best-paid alternative employ- 
ment open to him. Unless this at least is paid, the alter- 
native occupation will be preferred and the scale will have 
to be readjusted. Here, as in the case of pieces of land, 
individuals without any power of substitution, but who are 
proficient in their special tasks in comparison with others 
doing the same tasks and having such a power, are as well 
off as though they had it themselves. For example, if of 
a number of college professors receiving salaries of $4000 
a year each, some could earn as much or more in business 
positions and were hesitating whether to make the change, 
their power of substitution would serve to oppose effectu- 
ally any effort to reduce professors' salaries even though 
the others were quite unfit for any other kind of high- 
grade work than that they were doing. 

In addition to this marginal element there is a differ- 
ential element corresponding to the superiority of each 
worker in his grade. In practice the determination of this 
differential element in wages is a complex process except 
where piece-wages are paid, when it adjusts itself auto- 
matically. There is a tendency for whole groups of work- 
men, especially those organized in trade unions, to demand 
uniform wages. This policy prevents employers from hir- 
ing workers who do not come up to a certain standard of 
efficiency, but it also prevents superior workmen from re- 
ceiving the differential wages to which they are economi- 
cally entitled. In the occupations in which uniform wages 
for all workmen of each grade prevail, however, the work 
is usually so simple that individual differences count for 
relatively little and the differential wages which would re- 
sult if competition were entirely free are a negligible 
element. 

91. Complications in the Grading of Workmen. — The 
above analysis implies that the world's workers may be 
arranged in a gradually descending scale and that there 
are no breaks separating adjacent individuals and classes. 



COMPLICATIONS TOUCHING WAGES 169 

It is assumed that men doing the same kinds of work may be 
compared readily, so that the differential wages to which 
they are entitled may be determined ; also that the marginal 
men in each employment are just held where they are by 
the payment of as high or slightly higher wages than they 
could earn in alternative employments. While this is true 
as a general picture, it must be admitted that the step from 
one employment to that next higher in the scale is often 
a long one. This is particularly the case with the step from 
the tasks of unskilled to those of skilled workers and with 
that from skilled manual workers to brain workers. In- 
stead of saying that there is one scale of workers it would 
be more accurate to say that there are three different 
scales. The scale for brain workers begins at the highest 
point and breaks off not just where the scale for skilled 
manual workers begins, but somewhat lower. That is to 
say, the compensation of brain workers of the lower grades 
is no greater than that of manual workers of the higher 
grades. In the same way the scale for unskilled workmen, 
which begins low down, runs parallel to the scale for skilled 
workmen of the lower grades for a time and then continues 
to the lowest margin. Unskilled workmen of the higher 
grades earn as high wages as skilled workmen of the lower 
grades. It follows that the alternatives open to brain 
workers towards the lower end of the scale are a lower 
grade of brain work or a comparatively high grade of 
skilled labor, and those open to skilled workmen of low 
grade are still inferior skilled or comparatively high-grade 
unskilled labor. 

Another qualification that should be added to the anal- 
ysis of the preceding section refers to the assumption that 
the least efficient or marginal workers in each group have 
alternative occupations which maintain the level of their 
earnings. This is usually but not always true. Just as 
it frequently happens that men who are superior in their 
given branch are competent to do nothing else, so it some- 



170 WAGES 

times happens that men competent to do nothing else are 
at the very margin of efficiency for the work they perform. 
The earnings of such marginal men are fixed by a compari- 
son of their work with that of abler men in the same branch 
of production to whom alternative branches are open. The 
options of the latter fix the return for that class of services 
to all the workers in their group. In extreme cases, as, for 
example, in the sweating industries, it sometimes happens 
that a group of workers competent to do all of the work of 
a given sort for which there is a demand are competent to 
do only that kind of work. Under such circumstances 
competition within the group may reduce wages to a 
starvation level and keep them there until the demand 
for the product increases or the number in the group is 
reduced. 

92. The Explanation of Differences in Rates of Wages 
Generalized. — The assumption that the working popula- 
tion of a country like the United States is divided up into 
a few groups is helpful, but, as already stated, the actual 
number of groups is legion. In recapitulating the explana- 
tion of differences in wages it will be well to describe the 
labor market with all of its complexities. On one side, then, 
is the scale of tasks to be performed, determined in part 
by the demand of consumers for goods and in part 
by the organization of the productive factors adopted after 
generations of industrial experiment. On the other, is the 
working population divided up into hundreds of different 
groups corresponding to the diverse tasks to be performed. 
The wages paid to those performing the tasks highest in 
the economic scale are high. They must be so to keep such 
men from other tasks they might undertake and also to 
induce them to serve one employer rather than another in 
their particular tasks. The former possibility fixes a mar- 
ginal wage which all men performing the given sort of work 
must receive. Competition among employers adds to this 
marginal wage a differential element, measuring roughly 



THE EXPLANATION GENERALIZED 171 

the superiority of the better men over those who are just 
good enough to be retained in their positions. As the scale 
descends from group to group similar relations are found 
to prevail at every point. Each man's wages contain a 
marginal element determined by his own power of substitu- 
tion or by that of some other worker in the same group. 
If he is superior to the marginal men of his group, his 
wages will be higher by a differential element roughly 
gaging his superiority. If inferior, as sometimes hap- 
pens, his differential will be in the form of a deduction 
from the wages which more capable men, doing the same 
sort of work and with the power of substitution, receive. 

At the lower end of the scale marginal wages will be 
received which are not determined by what is paid in alter- 
native employments because there are none, or at least none 
in which workers are actually employed. From these low- 
est wages, which are still to be accounted for, all higher 
wages are at last analysis measured. They are a minimum 
to which the differential in the lowest group is added to 
determine the marginal earnings enjoyed in the next higher 
group. To this another differential is added in the next 
higher group to determine the next higher margin, which 
figures in turn with another differential in determining 
a third margin. Thus by successive steps, like a flight of 
stairs broken by frequent landings, the highest earnings of 
all are finally attained. In this explanation the word, 
" determine," is used, it should be clearly understood, in a 
relative sense. The ultimate determinants of wages — the 
prices consumers are willing to pay for the products of in- 
dustry, the organization of the productive factors, etc. — 
are not here under consideration, but only the influences 
which relate to one another the different rates of wages, 
from highest to lowest, which constitute the prevailing 
wage scale. 

93. Influence of the Immobility of Labor on Wages. — 
Competition tends to bring the wages of workers having 



172 WAGES 

the same industrial qualities to a level within each labor 
market, just as it serves to cause identical goods within a 
goods market to sell for the same prices. A labor market 
is, however, more restricted than a goods market. As 
Adam Smith long ago remarked, " a man is of all sorts of 
luggage the most difficult to be transported." The free 
movement of workers from positions where they are ill paid 
to positions where they are better paid, which is essential 
to free competition, is confined within narrow territorial 
limits. Ties of love, family associations, habit or sheer 
inertia hold most men to the localities in which they were 
born, despite the allurements of higher earnings in other 
places. There is, to be sure, a type of man to whom the 
attractiveness of new experiences in new surroundings is 
even greater than that of home, and in countries in which 
this type is common competition among workers is active 
over a wide area, with less wide differences in the rates of 
wages paid to workers of the same efficiency in different 
regions as its result. But even in the United States, where, 
according to the census returns, some twenty-five per cent 
of the people live in other States than those in which they 
were born, this type is rare, especially among workmen of 
the lower grades, and differences in wages among different 
sections persist for many years. These differences would 
doubtless disappear in a few generations if new regions 
were not constantly being opened up and if new methods 
of production calling for a different distribution of the 
working population were not constantly being introduced. 
But so long as these changes occur on any considerable 
scale differences in wages may be expected to continue. 
Improvements in means of transporting workers and their 
belongings and of transmitting intelligence tend to widen 
the labor market and may in time make it as wide as the 
whole country. There seems little likelihood, however, that 
the barriers that now oppose the free movement of popula- 
tion among different countries, and by so doing perpetuate 



COMPETITION EQUALIZES WAGES 173 

differences in rates of wages among nations, will be over- 
come for many centuries. Economists describe the unwill- 
ingness of workmen to seek the market which promises the 
highest wages as the immobility of labor. This immobility 
must always be kept in mind as a chief circumstance pre- 
venting that distribution of the labor force of each coun- 
try, and even more of the whole world, which would yield 
the largest productive results. From the point of view of 
distribution it causes some labor markets to be over-supplied 
relatively with the different grades of workers for which 
there is a demand and forces such workers to content them- 
selves with proportionately lower wages. 

94. Competition Tends to Equalize Efficiency- 
Wages, not Time- Wages. — In judging of the extent of 
differences in the rates of wages paid in different localities 
care must be taken to compare workers of equal degrees of 
efficiency. From the point of view of the entrepreneur it is 
not the time or effort of the worker for which wages are 
paid, but the work done. He is interested not in the wages 
per hour, per day or per week of his employees, but in the 
cost per unit of what they accomplish. If of two workmen 
working side by side one accomplishes in a given time twice 
as much as the other, his wages should be twice as high to 
make the cost of his labor to his employer the same as that 
of the other workman. Free competition in the labor 
market tends to equalize the cost of labor or efficiency- 
wages, but not time-wages, except for workmen who are 
equally efficient. The industrial world presents many ex- 
amples of differences in wages paid for the same kind of 
work due to differences in the efficiency of the workmen. 
The very low earnings of the Indian coolie, for example, 
are due in part to his very low standard of efficiency in 
comparison with workers of the white race. Even if the 
congestion of population in India could be relieved the low 
industrial efficiency of the people would remain a cause of 
relatively low wages. 



174 WAGES 

95. Other Causes of Differences in Money Wages. — 
Thus far, in considering the more important reasons 
for differences in wages, we have assumed that the money 
return is the only inducement which controls the competi- 
tion of workmen. If this were the case competition would, 
as has been stated, tend to make the earnings of workers 
of equal efficiency the same in each labor market. But, as 
a matter of fact, men do not consider the money return 
which an occupation promises merely, but all of the ad- 
vantages and disadvantages connected with it. The prin- 
cipal other considerations which offset and consequently 
help to perpetuate differences in money wages are the 
following : 

( 1 ) It is not money wages, but real wages, that are com- 
pared, and the latter vary with the expensiveness of living 
in different localities. In country districts the goods which 
wage-earners of the lower grades consume are usually 
cheaper than they are in cities. Hence low money wages 
in the country may stand for the same real wages as high 
money wages in the city. An equally favorable comparison 
may be made between the cost of living in a warm and in a 
cold climate. In the former houses need less to be heated, 
fewer clothes and less food suffice and the number of free 
goods is larger. This is one circumstance tending to keep 
money wages lower throughout the Southern States in the 
United States than they are in the North. 

(£) Some occupations require longer apprenticeship and 
more expensive training than others. In comparing differ- 
ent occupations men normally take account of the time and 
capital that must be invested in preparatory training, and 
unless the earnings in the industry requiring special prepa- 
ration promise to be large enough to repay them for the 
investment, they will not make it. In practice capital in- 
vested in training affords a very high return because so 
many of those who might benefit most from training are too 
poor to obtain it. 



CAUSES OF DIFFERENCES 175 

(3) Occupations differ in the ease or difficulty of the 
work required. The harder and more disagreeable the work 
the higher must the wages be to attract men from easier 
tasks. This does not mean that those who do the most 
disagreeable work are the ones who are most highly 
paid. It often happens that men who do such work have 
not the option of doing something easier, and when this is 
the case their earnings may be very low. Whenever they 
have such an option, however, the wages paid for the most 
arduous toil must fully make up for the difference or it 
will fail to attract its quota of workers. 

(4) Some positions are more dangerous than others and 
must offer a premium to cover life and accident insurance, 
in addition to mere wages, to attract workmen from safer 
trades. 

(5) The chances of success and the rewards of success 
are different in different occupations. In the professions, 
especially, " nothing succeeds like success." The more 
clients or patients a man has the more eagerly he is sought 
by additional clients and patients. It results from this that 
successful professional men are as a rule successful even 
beyond their deserts. The hope of similarly large incomes 
attracts into professional callings more men than the busi- 
nesses require. This reduces the average earnings in these 
occupations. In the United States professional men un- 
doubtedly receive smaller average incomes than do men of 
equal ability and training engaged in commercial enter- 
prises, and partly for the reason just given. 

(6) Some positions are held in high esteem and offer 
social advantages to compensate for lower earnings. This 
is true usually of professional work and serves, like the 
previous influence, to depress the money earnings of pro- 
fessional men. 

(7) The regularity of employment must always be con- 
sidered. Trades like those connected with building, which 
give employment only part of the year, must, to equalize 



176 WAGES 

advantages, offer higher day wages than those which 
occupy men continuously. 

(8) The chance of advancement and promotion must 
also be taken into account. Employments which lead to 
nothing should afford better pay than those having educa- 
tional value and serving as steps in a gradual ascent to 
higher positions. 

These and other similar considerations will readily be 
accepted as reasons for differences in wages that are in- 
dependent of differences in men. Taken together they come 
so near to explaining all differences in wages that some 
writers have assumed that but for them competition would 
in time bring the money wages of all grades of workmen to 
one uniform rate. This would certainly be true if com- 
petition were perfectly free and equal, that is, if all men 
were sufficiently alike to turn readily to the occupations 
that offered the largest returns. Under such circum- 
stances the working population would move away from in- 
dustries which paid low wages and towards industries which 
paid high wages, until the decreased labor supply in the 
former advanced earnings and the increased supply in the 
latter reduced them to the uniform rate. But, as we 
have seen, men are not alike in their industrial qualities. 
We must now inquire why the progress of evolution does 
not make them alike by gradually eliminating all but those 
of the highest industrial type. 

96. Influence of Heredity and Education in Perpet- 
uating Differences in Capacity. — A complete answer to 
the above question would carry us outside the field of 
economics into that of biology. Men are unlike, in part, 
because they are born so. And though the struggle for 
existence tends to eliminate types so unusual as to be in- 
capable of self-support, within the limits fixed by the 
necessity of survival, hereditary differences in capacity 
seem to be transmitted generation after generation without 
appreciable check. 



STANDARDS OF LIVING AND WAGES 177 

If heredity were the only factor in determining char- 
acter and capacity, the adjustment of the supply of work- 
ers of different grades to the demand for them would be 
largely outside of society's control. But most students 
agree that education, which includes all of the formative 
influences acting upon human beings from without as they 
pass through life, is an equally important force. Adam 
Smith went so far as to say that " the difference between 
the most dissimilar characters, between a philosopher and a 
common street-porter, for example, seems to arise not so 
much from nature as from habit, custom and education." 
A similar view was expressed recently by a Chicago judge 
who had had much experience in dealing with youthful 
criminals. When asked if he thought that his own children 
would have been criminals if they had been brought up in 
criminal surroundings he replied : " I don't think so, I 
know it." Except as regards abnormalities both in the 
direction of genius and imbecility the view that " habit, 
custom and education " have more to do with differences in 
men than " nature" seems to be justified by observation. In 
any case it is chiefly through education that men act in 
their efforts to fit their children for industrial life. 

97. Differences in Capacity Closely Connected with 
Differences in Standards of Living. — Education being 
such an important influence in molding industrial capacity, 
a partial explanation of differences in capacity must be 
sought in differences in the educational opportunities that 
are offered to the children of different families. Notwith- 
standing the self-sacrificing devotion of nearly all parents 
to the interests of their children and notwithstanding im- 
provements in free public educational institutions, 6uch 
differences are still great, even in the United States. Their 
perpetuation is due in large measure to the different stand- 
ards of living which control the conduct of different in- 
dustrial classes. By the standard of living is meant the 
mode of activity and scale of comfort which a person has 



178 WAGES 

come to regard as indispensable to his happiness and to 
secure and retain which he is willing to make any reason- 
able sacrifice, such as working longer, or postponing 
marriage. 

The influence which differences in standards of living 
have on the educational opportunities which children enjoy 
may be observed on every side. Compare, for example, the 
lives of typical children of well-to-do parents with those of 
the children of ordinary manual laborers. The former 
enjoy, in infancy, the watchful care of intelligent mothers 
and the best of medical attendance in times of illness. They 
are less apt to be forced in their development and more cer- 
tain to be supplied with nourishing food, pure air and the 
other requisites to healthful growth. Arrived at school 
age, unless the public schools in the locality are superior, 
they will be sent to less crowded private schools. Even more 
important is the fact that the sons of the well-to-do are 
under no pressure to leave school when they attain the age 
of fourteen or fifteen, because their earnings are not needed 
to swell the already ample family income. They will go 
through the high-school, at least, before choosing their oc- 
cupations, and they are very likely to take courses in college 
and even subsequent technical or professional courses if 
they have a bent in either of these directions. At length, 
arrived at the period when they are ready to enter some 
regular occupation, family influence will usually be able to 
command favorable openings for them and the same influ- 
ence will often facilitate their advancement. Meantime 
the standard of living of their parents has impressed itself 
upon their minds and characters. They have learned to 
regard a large income as essential to well-being and to ap- 
preciate the advantages of property. Though the sons of 
well-to-do parents sometimes show a tendency to reckless- 
ness when released from the restraints of school life, most 
of them learn prudence without ever having tasted the 
fruits of improvidence. They know that a certain income 



STANDARDS OF LIVING AND WAGES 179 

is indispensable to what they consider decent single exist- 
ence and that a somewhat larger income must be assured 
before marriage is to be thought of. Young men mindful 
of the expenditures of their girl friends are restrained by 
a sense of chivalry from proposing marriage until they can 
provide advantages at least equal to those enjoyed at home. 
On their side young women in the group have definite ideas 
in regard to the cost of maintaining a household and are 
quite as prudent in their attitude towards matrimony. In 
consequence rash matches among young people of this class 
are few, and young men are usually well established before 
they incur the responsibility of providing for a family. 
This postponement of marriage results in a low birth-rate 
for the class as a whole, which, by lessening the number 
trained for the higher professional and industrial positions, 
helps to maintain the earnings which holders of such posi- 
tions are able to command. 

Very different from this is the life history of typical 
children of the manual laboring class. In consequence of 
early marriages, facilitated by the fact that manual labor- 
ers attain their full earning capacity at the age of nineteen 
or twenty, children come in this class before the parents 
have themselves reached maturity. Their number, and the 
rude way in which the family is compelled to live, prevent 
the mother from giving them the attention that their best 
interests demand. As these children approach the age 
when they can go to school they are allowed to spend more 
and more time on the streets and to acquire that precocious 
knowledge so destructive of the idealism natural to child- 
hood. In school their progress is retarded by the lack of 
that stimulus and encouragement on the side of parents 
that is so helpful to children reared in more fortunate cir- 
cumstances, and, just as they are getting old enough to 
form judgments for themselves, their help is needed at 
home, or jobs are secured for them, and the formal part of 
their education is brought to an abrupt close. In the choice 



180 WAGES 

of their occupations immediate earnings are likely to be 
determining and consequently, instead of being apprenticed 
to skilled trades, they more often than not follow their 
fathers and become manual laborers. Made bread-winners 
thus early in life, they are apt before they are twenty to 
find the restraints of home irksome, and to resolve to create 
homes for themselves as soon as their earnings come up to 
the low standard to which they are accustomed. Acting 
on such resolutions they follow in the footsteps of their 
parents, as their children are likely to follow in their foot- 
steps. Thus the children of manual laborers, like the 
children of the well-to-do, are largely influenced in their 
life careers by the standards of living to which they happen 
to be born. 

98. Inequalities in Educational Opportunities must be 
Removed by Community Action. — A more complete study 
of the characters and habits of different groups of workers 
would confirm the conclusion suggested by the above com- 
parison, that the persistence of differences in industrial 
capacities among individuals is due chiefly to differences in 
educational opportunities which are due in turn to differ- 
ences in standards of living. But, it may be asked, if edu- 
cation is so important a cause of the differences in the earn- 
ing powers of different men, and if acquiring education is 
simply one way of investing capital for a future return, 
how does it come about that more capital is not invested in 
this way? The answer is simple. Those to whom the edu- 
cation would be invaluable are too young or too ignorant 
to appreciate the fact or are without the capital to invest. 
Their parents are also without capital and have, moreover, 
a less direct personal interest in the result. Men with capi- 
tal, on the other hand, do not invest it in the education of 
other people's children, except as a charity, because there 
is no form of contract under which they could claim a part 
of the return. Those needing education cannot, as mi- 
nors, legally contract, nor can their parents bind them, 



EDUCATION MUST BE FREE 181 

except within certain limits, during the period of their 
minority. 

It follows from the above considerations that for all but 
the children of the wealthy such education as is enjoyed 
must be public and free. For the community as a whole, 
the investment of capital in educational opportunities tend- 
ing to add to the industrial capacity of boys and girls is 
a certain means of adding to the collective wealth. Capi- 
tal so used, especially to inculcate higher standards of liv- 
ing and efficiency among children of the poor, yields a 
princely return and will Continue to do so until the present 
inequalities disappear. It is therefore to the community, 
and to improvements in the free schools, free colleges and 
free universities that we must look for the removal of the 
disadvantages under which children of the poorer classes 
now labor. To remove them completely it will be necessary 
not only to improve schools, colleges and universities cov- 
ering all branches of technical and professional training, 
but to raise the standards of parents so that they shall be 
eager to have their children enjoy the best advantages and 
to provide in some way for the maintenance of children 
whose parents cannot afford to support them during their 
years of study and preparation. The mere mention of 
these needs re-enforces what has been said of the present 
lack of equal educational opportunities. 

Summing up the results of our analysis, we must con- 
clude that the industrial population consists of various 
groups of workers whose differences in fortune and in 
standards of living are reflected in unequal educational op- 
portunities which serve to perpetuate, generation after 
generation, the differences in wages explained in previous 
sections. The picture drawn appears somewhat exagger- 
ated for the United States at the present time, because the 
country is comparatively new and undeveloped. The ex- 
ploitation of natural resources still offers a wide field for 
the adventurous and prevents, while it continues, that rigid 



182 WAGES 

stratification into economic classes that is found in the 
older countries of the world. But such a stratification 
already appears in the United States and it will show 
itself more and more clearly as the natural resources of 
the country come more completely under private owner- 
ship, unless the tendency in this direction is successfully 
opposed by a broad and vigorous social policy. In spite of 
it there are even in the older countries referred to many 
individual exceptions to the rule that children remain in 
the economic class to which they were born. Persons of 
great native ability rise to positions suited to their capac- 
ities despite all obstacles. On the other hand, all advan- 
tages seem wasted on other persons wko from innate stupid- 
ity or perverseness are incapable of deriving benefit from 
them. These exceptions are of much more significance to 
the moralist than the more commonplace careers that have 
alone received attention in the preceding analysis. They 
justify the familiar assertion that each one's success in life 
depends mainly upon himself, but they do not alter the 
more fundamental truth that the sort of self one is depends 
upon heredity and education and that differences in educa- 
tional opportunities are a chief cause of the differences in 
wages which it is the task of economics to explain. 

gg. Relation between Wages and Other Shares in Dis- 
tribution. — The causes of differences in rates of wages 
and of their persistence, generation after generation, have 
been explained in the preceding sections and it remains now 
to account for the earnings that are enjoyed by marginal 
workmen, which are the minimum from which all higher 
earnings are measured. The thesis that we have proposed 
to defend is that under conditions of free, all-sided com- 
petition the earnings of marginal, as of other, workmen 
will correspond accurately to the contributions which they 
make to production. To gage this contribution we must 
pass now to the discussion of interest, the last share in 
distribution. The different factors in production co- 



WAGES AND OTHER SHARES 183 

operate in all productive processes. The product is a 
joint-product and we can determine the share of it that is 
economically ascribable to each factor only after we have 
clearly perceived the basis on which the claims of all of the 
other factors rest. In the next chapter we have to explain 
interest and differences in rates of interest by an analysis 
similar to that we have applied to profits, rent and wages, 
and then to consider how the comparisons are made by 
which the proportionate share of each factor is determined. 



REFERENCES FOR COLLATERAL READING 

* Clark, Essentials of Economic Theory, Chap. VIII.; * Seligman, 
Principles of Economics, Chap. XXVI. ; * Fetter, Principles of Eco- 
nomics, Chap. XXIII.; * Carver, The Distribution of Wealth, Chap. 
IV.; * Bullock, Selected Readings in Economics, Chap. XVIII. 
§ 3; * Marshall, Principles of Economics, Book VI., Chaps. 
III.- V.; * Taussig, Wages and Capital, Part I.; Schoenhof, The 
Economy of High Wages, Part I.; * Pierson, Principles of Eco- 
nomics, Part I., Chap. VI.; Thompson, The Theory of* Wages and 
Its Application; * Adam Smith, Wealth of Nations, Book I., Chap. 
VIII. and Chap. X., Part I. 



CHAPTER XII 
DISTRIBUTION: INTEREST 

ioo. The Interest Problem and What It Involves. — 

Interest has already been defined as what is paid for the 
use of capital. From the point of view of distribution it 
is the share of income that is assigned to capital goods, or 
more accurately to the owners of such goods, for the part 
these play in production. The great variety of capital 
goods and the diversity of the services they render were 
discussed in a previous chapter (Section 46). As there 
explained (Section 42), the creation of capital goods re- 
quires, in addition to the factors involved in all produc- 
tion, saving, abstinence and waiting. Those who convert 
their incomes into capital instead of spending them con- 
tribute to production in these ways just as truly as do 
workmen by their activities. And just as " labor in and 
for itself is not valuable " but only " because through it 
valuable goods are produced" (Section 59), so capital 
goods are only valuable because they too assist production. 
The problem of interest, like the problem of wages, is 
threefold. First, the phenomenon itself must be accounted 
for, that is, it must be explained why from the gross 
money returns of industry there is normally assigned to 
the owners of capital goods, over and above the replace- 
ment fund which makes up for any depreciation in value 
which these goods sustain, the share or income which we 
have called interest. Second, differences in the propor- 
tionate shares, or in the rates of interest, assigned to the 
owners of different stocks of capital goods must be ac- 

184 



EXPLANATION OF INTEREST 185 

counted for. Third, the causes determining the marginal 
or current rate of interest must be explained. 

10 1. Explanation of the Reasons for the Payment of 
Interest. — Touching no part of economic theory has there 
been so much discussion or difference of opinion as touch- 
ing the reasons for the payment of interest. It would 
carry us beyond the scope of this work to enter into the 
subtleties of this controversy. We must content ourselves 
with trying to formulate an explanation that is logically 
adequate and that, at the same time, will be helpful 
in connection with the discussion of practical questions. 

A very common and seemingly simple form of the interest 
problem is presented by the payment of interest on money 
loans. Why, for example, are savings banks willing, not 
only to become the unpaid custodians of money deposited 
with them, but also to return with each deposit an addi- 
tional sum, $104, say, at the end of a year, in place of 
the $100 originally received? Everyone knows enough 
about the business of savings banks to answer this ques- 
tion correctly. They are willing to pay moderate rates 
of interest because they are able to loan the money re- 
ceived on deposit at higher rates to the business com- 
munity. Interest on money loans is consequently a derived 
form of interest.* To explain it fully we must go be- 
hind it and explain why business men will pay interest 
for the use of borrowed money. The answer to this sec- 
ond question is also easy. They do so because they know 
that by converting the money borrowed into the capital 
goods appropriate to their businesses they can get back 
the interest promised and enough more to make the trans- 
action worth while. This brings us then to the essence 
of the interest problem — to explain how it comes about 
that capital goods will normally earn something for their 
owners over and above the replacement fund. 

* Interest on money loans is discussed at length in the chapter on 
Credit and Banking (Sections 135 and 136). 



186 DISTRIBUTION: INTEREST 

As so often in our discussion of distribution, so now in 
explaining the phenomenon of interest, we must begin by 
asking the reader to oppose in his imagination the de- 
mands of consumers for consumable goods and the avail- 
able supplies of the factors that co-operate in the produc- 
tion of such goods. ■* Current methods of production 
assign a highly important place among these factors to 
capital goods — tools, machines, buildings and the other 
produced means to further production. By their aid the 
fruitfulness of human industry is enormously increased. 
This is equivalent to saying that any increase in the 
supply of capital goods that is available will increase the 
volume of consumable goods that can be produced, as any 
decrease in the supply will lessen production. And this 
increase in the output of goods that results from the aid 
which capital goods render to production includes nor- 
mally an increase in the aggregate value of such goods. 
For, although an increase in the supply of any one good 
may cause such a decrease in its value, because of its 
diminished marginal utility, that the larger is actually 
worth less than the smaller supply, this cannot conceiv- 
ably be the case when the change in question is an increase 
in the supplies of all goods. To put the argument in 
terms of prices, increasing the supply of one good, like 
wheat, might so lower its price as to make the larger 
worth less than the smaller supply. But if the same in- 
fluence that affected the supply of wheat affected similarly 
the supplies of all other goods including that of gold, the 
good in terms of which prices are expressed, there is no 
reason for expecting the increase in the supply of wheat 
to lower its price at all. Except for some unusual cir- 
cumstance that would not invalidate the argument, the 
larger supply of wheat would command a proportionately 
larger aggregate price. And what would be true of 
wheat would normally under the assumed conditions be 
true of all other commodities, or the aggregate money re- 



EXPLANATION OF INTEREST 187 

turn and the money income would be increased in propor- 
tion to the increase in the output of goods. It is just 
such an increase in the supplies of goods of all descrip- 
tions that normally results from an increase in the supply 
of capital goods. Capital aids not this nor that branch 
of production only but all branches of production, and as 
its supply increases the pressure of competition causes it 
to be diffused over the whole industrial field. We are 
therefore warranted in concluding that the increase in 
production which is to be credited to capital goods is not 
merely an increase in the volume of commodities but an in- 
crease in the aggregate price to be obtained for the larger 
volume. 

We now have before us all the data necessary to the 
explanation of interest. We may formulate the explana- 
tion thus: Interest is paid for the use of capital goods, 
because the limitation on the supplies of consumable goods 
which makes them command prices in the goods market is 
followed back to its cause in the limitation on the sup- 
plies of the factors of production, including capital goods. 
The competition of entrepreneurs for the limited stock of 
capital goods, stimulated always by the knowledge that 
with the aid of such goods more can be produced, causes 
a part of the price to be obtained for the products of in- 
dustry to be assigned to the owners of capital goods, just 
as another part is assigned to owners of land and another 
to workmen who contribute their services to the common 
result. It should be carefully noted that according to 
this explanation a limitation of the supply of capital 
goods is one of the conditions necessary to the payment of 
interest. In the next chapter we shall consider more fully 
than we have yet done the causes of this limitation, and 
thus complete our analysis. 

102. Service of the Replacement Fund in Giving Mo- 
bility to Capital Goods. — Differences in rates of interest, 
the second part of the interest problem, require explana- 



188 DISTRIBUTION: INTEREST 

tion because it is the tendency of competition to equalize 
the earnings of all kinds of capital goods within the same 
market for capital. This is accomplished largely through 
the agency of the replacement fund. As already explained 
(Section 43), some capital goods are highly mobile and 
may be assigned readily to the particular branch of pro- 
duction in which they are in greatest demand. Most cap- 
ital goods, however, are more or less specialized and seem 
to lack the plasticity necessary to free movement and free 
competition. This is the situation as it presents itself to 
the observer taking an instantaneous photograph of capi- 
talistic production. But instantaneous photographs of 
shifting, changing objects are seldom very lifelike. They 
fail to represent their essential characteristic, which is 
movement. To be understood, capitalistic production 
must be studied not as it appears at any particular mo- 
ment, but as it appears over a considerable period of time. 
It is not an instantaneous photograph, but a " moving 
picture," or a series of successive impressions that is re- 
quired. Every capital good has its distinct life history. 
By itself it has little mobility, but through the fact that it 
comes into being, wears out and is replaced, it allows great 
mobility to the capital transiently embodied in it. No 
capital good is ever called into being unless the investor 
or entrepreneur responsible for its creation believes that it 
will earn not only the current rate of interest on the sum 
invested in it until it is worn out, but in addition a fund 
for its own replacement. In the bookkeeping of the in- 
dustrial world a part of the earnings of capital goods is 
regularly set aside to replace those goods. This con- 
stantly accruing replacement fund, which flows back to 
investors and entrepreneurs, is completely mobile. It ap- 
pears as a certain amount of free purchasing power which 
may be used either to replace the capital goods in process 
of destruction with exactly similar goods, or to call into 
being quite different capital goods, as the judgment of the 



LEVELING INFLUENCE OF COMPETITION 189 

entrepreneur may determine. At any given moment the 
amount of this mobile replacement fund is small. In order 
that delay and loss may be avoided, its destination must be 
decided upon even before it arises, and in consequence it 
seldom accumulates in the hands of investors and entre- 
preneurs, but merely flows through their hands on its way 
to embodiment in new forms of capital goods. Neverthe- 
less the existence of this constant flow of mobile pur- 
chasing power makes possible the withdrawal of capital 
tied up in highly specialized forms of capital goods and 
its transformation into other forms of capital goods at a 
rate which only those familiar with the ups and downs of 
business can appreciate. How this facilitates the tend- 
ency of competition to smooth out differences in rates of 
interest in the same capital market must now be explained. 
103. Competition Tends to Bring Interest Rates to a 
Level. — Consider first differences among different firms 
in the same branch of production. One firm has preceded 
all others in putting in some superior machine or other 
form of capital, and this gives it higher earnings until 
others gradually introduce the superior machines into 
their plants also.* But competitors are always trying to 
keep their plants up to the highest point of efficiency. 
If inventions and improvements in processes were to cease 
it would take but a short time for the very best equip- 
ment to be introduced into all freely competing estab- 
lishments. Those unable to modernize their processes 
would be forced into other industries. They could not 
sell at the normal price and continue to make profits equal 
even to a fair wages of management. Allowing time 
enough for the process, therefore, it is evident that in the 
absence of patents, or other monopoly conditions, the 



* These higher earnings were called " profits " in Chapter VIII., 
in conformity to business usage. In describing them here as " inter- 
est " we simply go a step further back and attach them to the superior 
capital goods to which they owe their existence. 



190 DISTRIBUTION: INTEREST 

earning power of capital goods in different competing 
establishments would be equalized. 

But among different branches of production differences 
might still persist. Shoe machinery might, for example, 
be earning more than textile machinery. But if this were 
the case, one or both must be earning less or more than the 
current rate of interest for capital generally. If shoe 
machinery were earning more than the current rate, com- 
peting shoe manufacturers would tend to enlarge their 
plants to secure the extra interest on a larger investment. 
By so doing they would, on the one hand, make drafts on 
the country's free capital tending to enhance the rates of 
interest other entrepreneurs would have to pay to secure 
the capital needed to keep their plants intact, while, on 
the other, they would tend to depress the price of shoes by 
increasing the supply and in this way to lessen the total 
to be divided among all the shares in distribution in this 
branch of production. As the result of action and re- 
action the extra earnings of shoe machinery would dis- 
appear. If, on the other hand, the difference was due to 
the fact that textile machinery was earning less than the 
current rate in industries generally, the conditions would 
be favorable to a reduction in the number of textile plants 
and the gradual release of capital for other investments. 
This would tend to raise the price of textiles and give 
larger returns to textile machinery, while it at the same 
time reduced the relative earnings of capital goods in 
other industries by permitting a slight expansion. Thus 
among different branches of production, as in the same 
branch, competition is always tending to equalize the 
earnings of capital goods. 

104. Reasons for the Persistence of Differences in 
Rates of Interest. — The above analysis of the tendency 
of competition helps to explain why in actual practice dif- 
ferences in rates of interest persist. To the extent that 
the mobile replacement fund fails to multiply forms of 



DIFFERENCES IN INTEREST RATES 191 

capital the moment they are needed, or to withdraw other 
forms the moment they are superfluous, there is oppor- 
tunity for differences in the earning power of capital 
goods. The circumstances which cause such differences 
to arise will now be briefly indicated. 

The most familiar ground for differences in the return 
from different investments is the presence of monopoly. 
The monopolist deliberately restricts the output of the 
monopolized product so that the returns to the capital and 
labor he employs exceed those to be realized in competitive 
industries. We have designated the surplus return as 
monopoly profit, but since it frequently comes to investors 
in the form of dividends it is often thought of as a part 
of interest. In a sense monopoly profit is a part of the 
share of income ascribed to the capital goods which figure 
in monopolistic production. This is particularly true 
when the basis of the monopoly is a patent. Patented 
machines do earn the larger returns which they enable 
their owners to secure. At the same time the reason for 
the larger earnings is always the monopoly, and it con- 
duces to clearness to consider dividends derived from mo- 
nopolistic enterprises as made up in part of interest and in 
part of monopoly profit. 

The close resemblance of interest on permanent im- 
provements to rent has already been commented upon. 
Such improvements will not be made unless there is good 
reason to think they will afford at least the current rate 
of interest, but after they have been made the capital in- 
vested becomes a part of the land itself and receives in- 
come in obedience to the law of rent. If the anticipations 
of the investor are exactly realized, such capital goods 
afford an income corresponding to the current rate of in- 
terest, but only so long as industrial conditions remain 
undisturbed. Prospectively regarded such an income is 
interest, retrospectively it is rent. 

Every specialized form of capital is subject to a certain 



192 DISTRIBUTION: INTEREST 

extent to the same limitations as permanent improvements. 
Consider, for example, a factory which it takes a year to 
build and which cannot, without considerable loss in value, 
be turned to account in another branch of industry than 
that for which it was designed. The investment of capital 
in such a factory will only be made in case there is good 
reason to expect that it will earn at least the current rate 
of interest. But before the factory can be available for 
production a year must elapse. In this time changes may 
occur. The prudent investor will hesitate to transform 
his free capital into a factory until there is a margin of 
prospective return over and above the current rate of in- 
terest to compensate him for the risk he incurs. It follows 
that until the earnings of specialized capital goods exceed, 
to some extent, the current rate of return on free capital 
such goods will not be multiplied. Competition among 
investors stops before the earnings of such goods are re- 
duced to the general level. On the other hand, after the 
factory has been erected, the capital invested in it can 
neither be withdrawn nor allowed to remain idle without 
considerable loss to the investor. If industrial conditions 
change so that the share of income assigned to the factory 
diminishes, the investor must make the best of the situation. 
Instead of getting the interest he expected, or even the 
current rate on free capital, he may obtain only one-half 
the current rate or even less, and yet it may pay him 
better to keep the factory in operation than to close it or 
to try to turn it to some other use. Under such circum- 
stances the earnings of specialized capital goods may de- 
part widely and for considerable periods from the current 
rate of interest. In communities in which changes in the 
demands of the market and in the methods of production 
are constantly occurring, discrepancies of this sort may 
be so common as to obscure the fact that competition tends 
to establish one uniform rate of interest for all capital 
goods. When competition is free, however, this tendency 






OTHER CAUSES OF DIFFERENCES 193 

is always active, and even in a country as progressive as 
the United States it confines variations in most invest- 
ments within narrow limits. 

105. Other Causes of Differences in Rates of Interest. 
— Another cause of differences in interest rates results 
from the danger of accidental destruction to which some 
capital goods are exposed. Whenever this danger may 
be provided against by the machinery of insurance, the 
difference figures simply in the larger replacement fund 
which must be earned in addition to current interest by 
the capital goods affected. In many cases the danger is 
too irregular and uncertain to be insured against, and the 
increased interest needed to attract capital into the pre- 
carious investment depends upon the temperament of in- 
vestors. Conservative people will be deterred by the fear 
of loss from investing at all in such enterprises. More 
reckless and optimistic capitalists may be induced to take 
large risks by the promise of only a slightly larger return 
than the current. rate of interest. 

In addition to the differences in rates of interest earned 
in different investments and by different kinds of capital 
goods, there are differences among different sections. 
Although much more readily transported to the best mar- 
ket than labor, capital also is timid about venturing far 
from its source. Capitalists usually feel that they can 
better estimate the risks involved in investments near home 
than at a distance In consequence of this feeling capital 
tends to be concentrated in the centers where men of 
wealth live, and new and backward communities are able 
to command less than their proportionate share of the 
available capital equipment. Instead of there being one 
rate of interest on free capital in a country like the United 
States there are a variety of rates, ranging from the low 
rates found in the large cities and the manufacturing 
sections of the North and East to the high rates prevail- 
ing in the agricultural and mining regions of the South 



194 DISTRIBUTION: INTEREST 

and West. A variation of from two to three per cent 
between the rates of interest regularly charged for equally 
good loans by banks in New York City and Arizona 
roughly reflects the difference in the earning power of cap- 
ital goods in the two localities. As different sections are 
brought into more intimate business relations the supply 
of capital tends to distribute itself more equally over the 
entire industrial field and such differences become less 
marked. As in the case of wages, however, differences in 
rates of interest among different countries are likely to 
persist long after differences among different sections of 
the same country have become insignificant. 

1 06. Relation between Marginal Wages, Marginal 
Interest and the Other Shares. — We are now ready to 
consider the relation between the current rate of interest 
for mobile capital goods, or the " marginal " rate, and 
what we defined in the last chapter as the marginal rate of 
wages. The thesis which we propose to prove ( Section 63) 
is that, under conditions of free, all-sided competition, these 
rates tend to equal the contributions which the respective 
factors make to production. To simplify the discussion 
we may assume that competition has eliminated competi- 
tive profits, as it constantly tends to do, so that the reward 
of entrepreneurs is confined to their wages of manage- 
ment, which obey the same principles as wages generally. 
Monopoly profits are, of course, excluded from the prob- 
lem since their very existence is inconsistent with the free 
competition assumed. Even were this not the case we 
should be justified in ignoring them since the wage and in- 
terest rates paid for workmen and capital goods in monop- 
olistic enterprises are usually adjusted to the rates paid 
in competitive businesses. Entrepreneurs controlling mo- 
nopolies wish, as much as other entrepreneurs, to secure 
their productive factors as cheaply as possible. They 
could afford often to pay very high wages and interest 
at the expense of their monoply profits, but in practice 



WAGES, INTEREST AND OTHER SHARES 195 

they usually pay only a little if at all higher rates than 
those fixed by general, that is, competitive, conditions. It 
follows that the explanation of wages and interest that 
applies to competitive industries will apply also, so far as 
these shares are concerned, to monopolistic industries. 

The explanation of rent given in Chapter X. leaves its 
relation to wages and interest in no uncertainty. It is a 
differential return due to the superiority of the land or 
other natural agent used in the given productive enterprise 
in comparison with marginal land devoted to the same 
purpose. At the final margin of production it does not 
appear at all; at other points it takes the surplus due to 
natural conditions and in no wise affects the shares, wages 
and interest. Within each labor market the same rates 
of wages, approximately, are paid for the same grades of 
labor, whether rent happens to be another item of expense 
which the entrepreneur incurs or not. The same state- 
ment holds true of each market for loans of capital. It 
follows that an explanation of the causes fixing wages and 
interest at the no-rent margin of production is a complete 
explanation. The same forces are active in every other 
part of the industrial field and serve to determine wages 
and interest in practical independence of rent. 

With profits eliminated and rent explained in entire 
independence of the other shares, there are left to be an- 
alyzed the causes which determine the division of income 
between wages and interest. At the final margin of pro- 
duction in competitive enterprises the entire product is 
divided between these two shares, and before we attempt to 
explain the law of division it will be well to recall the in- 
fluences which determine the amount of this joint return. 

107. Causes Determining the Size of the Joint Share 
of Labor and Capital at the Margin of Production. — If 
the joint share which goes to labor and capital at the mar- 
gin of production includes the entire product which free 
land, labor, capital and the organizing ability of entre- 



196 DISTRIBUTION: INTEREST 

preneurs produce at the margin, its size depends ob- 
viously upon all of the factors that were discussed in the 
chapters on Production. Of primary importance is the 
quality of the land and the natural agents which are used 
at the margin. In a country like the United States, which 
is abundantly supplied with land and natural resources 
in proportion to its population, the lands, mines, forests, 
fisheries, sources of water power, etc., which are used at 
the margin are rich and afford large returns to the labor 
and capital applied to them. Up to a quite recent period 
in the history of America, improvements in transporta- 
tion facilities and the discovery of new sources of natural 
wealth have kept pace with the growth of population and 
of capital and the margin of production has been lowered 
but little, if at all. It has been from the first discovery 
of the country very much higher than the margin of pro- 
duction found in the more populous countries of Europe, 
and this has been a chief cause of the high earnings which 
labor and capital have commanded in the New World. 
Wages and interest have been high because labor and 
capital have been more generously assisted by nature at 
the margin of production where this assistance has been 
gratuitous. 

Next to the location of the margin of production, the 
efficiency with which labor and capital are correlated in 
production is the most important influence determining the 
amount of their joint share. This depends upon the in- 
telligence and enterprise of entrepreneurs. The United 
States is fortunate in this regard also. Its captains of 
industry compare favorably with those of any other coun- 
try and it is doubtful if industrial organization is any- 
where more highly developed. Through efficient organi- 
zation labor and capital succeed in producing and earn- 
ing more than they could if less intelligently directed. 

Other factors influencing the result are the industrial 
capacity of workmen as individuals. The more ability 



MARGINAL WAGES AND INTEREST 197 

and energy they put into their work the larger will their 
return be. Equally important is the efficiency of the 
forms of capital utilized in production. If improved 
tools and machinery, convenient and sanitary buildings, 
etc., are the forms into which the community's capital is 
thrown, the returns will be larger than if poor imple- 
ments and badly planned structures predominate. The 
efficiency of the forms of capital used depends upon the 
progress that has been made in invention and discovery. 
In this field, also, the United States compares favorably 
with other nations. Its capital equipment is not perhaps 
quite so large in proportion to its population as is that of 
some other countries, but it is up-to-date and efficient. 
By its aid the product shared between labor and capital in 
marginal industries is further increased. 

Through these influences, and all of the others discussed 
in the chapters on Production, the joint share of income 
which goes to labor and capital is determined. If the con- 
ditions are favorable, as they unquestionably are in the 
United States, the joint share will be large. The terms of 
its division between labor and capital themselves determine 
whether wages will be high relatively and interest low, or 
interest high and wages low, or both wages and interest 
high together. 

1 08. How Marginal Wages and Marginal Interest Are 
Determined. — That the joint share of wealth which labor 
and capital receive at the margin of production corre- 
sponds to what is there produced follows obviously from 
the foregoing analysis. It is the product of such labor 
and capital, not, of course, in the sense that it owes its 
existence exclusively to them, but in the sense that they are 
the only factors of economic importance. The part which 
nature and natural powers play in production at the mar- 
gin is gratuitous and therefore, economically speaking, we 
are warranted in ignoring it. To make it clear that the 
individual share assigned to each factor in production 



198 DISTRIBUTION: INTEREST 

at the margin tends, in this same sense, to correspond to 
what it produces, we must notice a characteristic of labor 
and capital to which little attention has thus far been 
directed. Workmen and capital goods not only co-operate 
in production ; they also compete. At some points in 
every industry entrepreneurs have the alternative of using 
certain grades of labor or certain forms of capital for the 
accomplishment of a desired result. Lifting may be done 
by capital goods in the form of elevators, cranes, etc., re- 
quiring only human guidance, or by workmen laboriously 
climbing ladders with loads on their backs. Moving may 
be accomplished by men trundling wheelbarrows or pushing 
tram cars, by means of horsecars, or by steam railroads. 
Similarly in manufacturing, the tool-equipped workman 
is ever a competitor of the automatic machine. Even in 
agriculture steam plows may be used in place of horse 
plows with a considerable saving in labor, and harrowing, 
planting, reaping and other processes may be performed 
through the use of machines of varying degrees of com- 
plexity, or by hand tools. In deciding between capital 
goods and workmen at these competing points, the guid- 
ing principle always acted upon by entrepreneurs is to 
choose that combination of factors which, in proportion 
to its efficiency, is cheapest. Workmen are substituted for 
capital so long as it pays to make the change. At other 
points capital goods are substituted for labor so long as 
this pays. Every such substitution tends to enhance the 
price that must be paid for the use of the preferred factor, 
since it involves increased demand for it without any 
change in its supply. It at the same time tends to lower 
the price that must be paid for the factor that is rejected. 
Its supply is increased without any corresponding increase 
in demand. In actual practice, since changes are con- 
stantly occurring not only in the quantities of labor and 
capital but in the methods of production and the kinds 
of capital used, these, substitutions occur constantly and 



LAW OF COMPETITIVE DISTRIBUTION 199 

the distribution of labor and capital is far from being at 
any one time what it is tending to become. If by some 
miracle all such changes should cease, it is not difficult to 
see that competition would go on, here causing the sub- 
stitution of workmen for capital goods, there that of 
capital goods for workmen, until finally the supplies of 
labor and capital were divided among different branches 
of production and in each branch so that the largest pos- 
sible productive result would be secured. This is the sit- 
uation that competition tends to establish. If it should be 
established, which of course it never is in practice, capital 
goods would continue to be used for many purposes for 
which they alone were suited, and workmen would continue 
to be employed at many tasks which could not possibly be 
done by the most perfect machinery or other capital goods. 
At other points capital goods would be doing tasks that 
might be done by labor, while workmen would be doing 
things that might be effected through capital. For some 
of these tasks one or the other would be distinctly prefer- 
able so long as wage and interest rates remained as they 
were, and therefore they would be little involved in the sub- 
stitutions made after changes ceased. In the case of 
others the choice between the factors at current rates of 
wages and interest would be a very nice one. Entre- 
preneurs would continue for some time to make substitu- 
tions at these points, and these substitutions would serve 
for some time to cause readjustments in wage and interest 
rates which would make further substitutions desirable. 
The range of these changes would contract steadily, how- 
ever, until finally no further substitutions would be econom- 
ically desirable, since both labor and capital would be fully 
employed down to what we may call the margin of indif- 
ference, that is to the point where both factors would be 
equally cheap at the prevailing rates of wages and in- 
terest. At this margin of indifference it would be possible 
to compare the shares of the product to be credited to the 



200 DISTRIBUTION: INTEREST 

respective factors and each would get the equivalent of 
what it produced. If it did not, that is, if less were paid 
to owners of capital goods than these goods produced, or 
to workers than they produced, either more would be paid 
to the other than it was worth or an extra profit would re- 
main for the entrepreneur, and either alternative is incon- 
sistent with the assumption that competition has perfectly 
accomplished what it is always tending to accomplish. 
The law which determines the distribution of income be- 
tween labor and capital is, therefore, that free, all-sided 
competition tends to assign to each the exact equivalent 
of what it produces at the margin of indifference. At the 
margin of production, where the whole product is the 
joint-share of labor and capital, wages paid to labor will, 
under this law, command the same return in product as the 
same sum paid as interest for the use of capital goods. 
These marginal rates of wages and interest serve, as 
already explained, as standards to which rates of wages 
and interest for all kinds of workmen and capital goods 
are adjusted. In this way comparisons made at the mar- 
gin of indifference control the shares in distribution at all 
other points. 

The assumptions on which the above law rests may seem 
somewhat exaggerated, but they really involve no more 
than giving free play to competition and allowing time for 
it to work out its full effects. The efforts of entrepre- 
neurs are constantly directed towards using capital goods 
only down to the margin of indifference on the capital side, 
and towards employing workmen only down to this margin 
on the labor side. To overstep it in respect to either is 
to incur loss, while on the other hand failure to push the 
use of the productive factors to this limit in each branch 
of production is to forego a profit that might otherwise 
be obtained. Thus in actual practice the use of 
additional capital goods here, and the employment of 
more workmen of a given grade there, or the withdrawal 



LAW OF COMPETITIVE DISTRIBUTION 201 

of capital goods or the discharge of workmen, have for 
their purpose better conformity to the ideal arrangement 
of labor and capital that has been described. At any 
given time a rough approximation to the ideal towards 
which competitive forces are always straining is actually 
presented, and in every branch of production comparisons 
between the productiveness of quantities of capital and 
quantities of labor are being made by entrepreneurs and 
are determining their business decisions. The law of com- 
petitive distribution that we have stated is, therefore, the 
law to which actual distribution tends to conform. 



REFERENCES FOR COLLATERAL READING 

* Clark, Essentials of Economic Theory, Chap. IX. ; * Seligman, 
Principles of Economics, Chap. XXV. ; * Carver, The Distribution of 
Wealth, Chap. VI.; * Marshall, Principles of Economics, Book VI., 
Chaps. VI.-VIIL; Hadley, Economics, Chap. IX.; Pierson, Principles 
of Economics, Part I., Chap. IV. 



CHAPTER XIII 
VALUE AND DISTRIBUTION 

109. Restatement of the Theory of Distribution. — We 
have now surveyed, in broad outline, nearly the whole field 
of consumption, production and distribution. Before we 
go on to consider the causes which control the supplies of 
workmen and capital goods in each industrial community 
and thus figure among the ultimate determinants of eco- 
nomic relations it will be well to restate, in general terms, 
the conclusions to which we have already come. 

Goods are valued and command prices because they have 
utility and because their supplies are limited in comparison 
with the demand for them. From the side of consumers 
the law that controls prices is that the price of a good tends 
to correspond to its marginal utility measured in terms of 
money to marginal consumers. From the side of producers 
the law is that competition tends to bring about a corre- 
spondence between the price of a good and the expense of 
producing it to representative firms. Logically the explana- 
tion of the shares into which the aggregate prices paid for 
the annual products of industry are distributed might be 
worked out by taking either of these laws as a starting point 
and following it to its ultimate conclusions. We have pre- 
ferred in this work to make the law of prices from the side 
of producers our point of departure.* In pursuance of this 
plan we defined prices conforming to the expenses of pro- 
duction of representative firms as normal and explained 
monopoly and competitive profits as surpluses due to dis- 

* Cf. Bohm-Bawerk's Positive Theory of Capital for a brilliant 
illustration of the other plan of procedure as regards the share, 
interest. 

202 



RESTATEMENT OF THEORY 203 

crepancies between actual, or market, and normal prices. 
Having disposed in this way of departures from the normal, 
we turned next to the explanation of the shares that make 
up the expenses of production. Rent was explained as the 
differential return due to differences in the situation and 
quality of different pieces of land and natural resources, 
necessary to adjust the returns to labor and capital on 
superior to those on marginal lands. For competition al- 
ways tends to hold wages for different grades of labor and 
interest for capital goods all over the industrial field at 
their respective levels. Rent is thus the share of the price 
of the larger product obtained on superior as compared 
with marginal land that may be claimed by the land-owner 
as economically due to the land, since the shares that labor 
and capital can claim as economically due to them are de- 
termined by what they can produce at the margin. In this 
sense we may say that rent is the share of the price that 
land produces. Finally, by means of the analysis just 
completed (Section 108), we saw that under conditions of 
free, all-sided competition, time being allowed for such 
competition to work out its full effects, the parts of the 
product at the margin of indifference due respectively to 
marginal workmen and marginal capital goods could be 
compared, and to each would be assigned the share of the 
price corresponding to its contribution to the product. 

. no. Caution Against Unwarranted Inferences from 
the Theory of Distribution. — Lest the true significance 
of the law of distribution to which our analysis has brought 
us be misconceived, it will be well to consider carefully cer- 
tain conclusions that might seem to follow from it, but that 
really do not. First, then, although we have found it con- 
venient to give great prominence to the tendency of com- 
petition to cause prices to correspond with the expenses of 
production of representative firms, nothing in our analysis 
would justify us in saying that these expenses determine 
prices. On the contrary, it would be nearer the truth to 



204 VALUE AND DISTRIBUTION 

say that prices, determined by the money equivalent of 
the marginal utilities of goods to marginal consumers, 
determine the expenses of production. But this statement 
also would fail to tell the whole truth. Prices are paid for 
goods because of limitations on their supplies. These 
limitations under conditions of free, all-sided competition 
are due in turn to limitations on the supplies of the factors 
of production — superior land and natural resources, work- 
men of all grades, capital goods. Thus if prices deter- 
mine the expenses of production, the causes necessitating 
expenditures in production play a part in determining 
prices. The chain of causation is not straight,* but re- 
turns upon itself in a circle. Each influence that needs to 
be considered acts and reacts upon all of the others. 

Secondly, since we cannot logically say that the expenses 
of production determine prices, then neither can we say 
that a particular share in the expenses of production, such 
as wages to marginal workmen, determines the part of the 
price corresponding to it. When we assert that wages to 
marginal workmen tend to equal the price of that part of 
the product which is economically imputable to the labor 
of these workmen, we do not mean that the price of part 
of the product is determined by wages. The determination 
of price is a complex process and wages figure in it only as 
the limitation on the supply of labor is one of the causes of 
the limitation on the supplies of consumable commodities 
which causes them to command prices. The competitive 
bidding of entrepreneurs for the limited number of mar- 
ginal workmen tends to raise the price or wages paid for 
their services to a level with the price of the part of the 
product imputable to their services. In this sense and only 
in this sense can we assert that competition tends to make 
wages equal what the factor, labor, produces. 

A final misapprehension to be guarded against is that the 
law of competitive distribution which has been stated is a 
justification of such distribution. Economically speaking, 



THE GROWTH OF POPULATION £05 

landowners may get only the equivalent of what their land 
produces, workmen may get the full equivalent of what 
their labor produces and capitalists may get only what 
their capital goods produce, and yet this may be a very 
unfair division of the product. It leaves entirely uncon- 
sidered two questions that are fundamental to any decision 
as to the justice of the system, that is, is there a fair 
division of opportunities for individuals to develop into 
efficient producers and is the private ownership of land 
and capital goods itself just? Our opinion touching the 
first of these questions was indicated in the discussion of the 
causes of differences in rates of wages (Sections 97 and 
98). In answer to the second some views are advanced in 
the closing chapters. 

The law of competitive distribution, as these three quali- 
fications on conclusions that might be drawn from it sug- 
gest, is not the economist's last word touching any im- 
portant problem. It is merely an aid towards an under- 
standing of the complexities of actual industrial life in 
which monopoly and change are even more conspicuous 
than what we have designated as " normal " conditions. 

in. The Growth of Population in the Nineteenth Cen- 
tury. — Before entering upon a discussion of the causes 
which control the growth of population or the supplies of 
workmen in different countries, it will be suggestive to 
examine the facts revealed by population statistics. Some 
of these are indicated in the following table : 

GROWTH OF POPULATION, 1800-1900 

(000,000 omitted) 

Per cent of 

1800-01 1900-01 Increase 

United States 5.3 76.1 1,326 

Russia in Europe 40.0 110.0 175 

Germany 25.0 56.4 106 

Austria-Hungary 25.0 45.4 82 

France 26.8 39.0 45 

United Kingdom 16.3 42.0 158 

Italy 17.5 32.5 86 

Spain 6.0 18.6 210 



206 VALUE AND DISTRIBUTION 

The striking differences in rates of growth between the 
United States and the older European countries are readily 
accounted for by the wealth of undeveloped and even un- 
appropriated natural resources that were available in the 
New World up to the very close of the nineteenth century. 
Through doubling itself on the average once every twenty- 
five to thirty years, the population of the United States is 
rapidly bringing the country, however, into the same situa- 
tion as regards density that prevails in Europe, where the 
aggregate population little more than doubled during the 
whole nineteenth century. Even more interesting than the 
differences in rates of increase shown by a comparison cov- 
ering the whole nineteenth century are those displayed by 
European countries in the last generation. Thus from 
1871 to 1901 the population of Germany increased 38 per 
cent, that of the United Kingdom 32 per cent and that of 
France less than one per cent. 

The source of these variations in the rates at which the 
populations of different countries grow is to be sought, of 
course, in the relation between their birth and death rates 
and between immigration and emigration. For our present 
purpose we may confine attention to the former, since 
immigration has no direct effect upon the population of the 
world as a whole, however much it may affect that of 
particular countries. 

BIRTH, DEATH AND MARRIAGE RATES, 1871-1890* 

Excess of Births 
Births Deaths over Deaths Marriages 

Austria 38.6 30.6 8.0 16.3 

Germany 38.1 26.0 12.1 16.4 

Italy 37.3 28.6 8.7 15.6 

Holland 35.2 22.6 12.6 15.1 

United Kingdom .. 32.6 19.9 12.7 14.4 

Denmark 31.7 19.0 12.7 15.2 

Belgium 31.0 21.4 9.6 14.2 

Norway 30.7 16.9 13.8 13.7 

Sweden 29.8 17.6 12.2 13.1 

Switzerland 29.4 22.1 7.3 14.7 

France 24.6 22.8 1.8 15.4 

* These statistics are taken from Mayo-Smith, Statistics and Soci- 
ology, Book I., Chaps. V., VI. and VII. 



POPULATION THEORIES 207 

The preceding table gives the average birth, death and 
marriage rates * of the principal countries of the world 
for which statistics are available for the years 1871-1890. 
Like the table on page 205 this also emphasizes the great 
differences that are found in different countries. Austria, 
Germany and Italy show the highest marriage and birth 
rates, but high death-rates in the first and last put them 
near the bottom of the list as regards the rates at which 
their populations are growing. The countries with the 
lowest birth-rates, France, Switzerland and Sweden, have 
very diverse marriage and death rates. Of the three, 
France combines with the highest marriage-rate the lowest 
birth-rate, while in Sweden the relation is just reversed, 
the lowest marriage-rate resulting in the highest birth- 
rate. Even more remarkable is the difference in the rates 
at which the populations of these two countries are grow- 
ing. The low birth-rate of France is accompanied by an 
average death-rate which prevents the population from in- 
creasing as much as 0.2 per cent a year. In Sweden on the 
other hand the higher birth-rate is associated with a very 
low death-rate which causes the country to stand near the 
top of the list as regards the rate at which its population 
is growing. Such are the facts in reference to the growth 
of population in the principal countries of the world. We 
may now turn to the various theories that have been ad- 
vanced with a view to showing that these facts obey defi- 
nite social laws. 

ii2. Population Theories — Economists are still divided 
in their opinions in regard to the relative importance of 
the different influences that control the growth of popu- 
lation. In general they may be separated into three 
groups, according to whether they emphasize the physio- 
logical, the social or the economic factors which enter into 
the problem. Upon two points all are in substantial agree- 

*That is, the number of births, of deaths and of marriages for 
each 1000 of the population per annum. 



208 VALUE AND DISTRIBUTION 

ment : ( 1 ) Illegitimate births constitute such a small pro- 
portion of all births in modern communities that no serious 
error is involved in assuming that a more or less formal 
union precedes the begetting of children. (2) The age of 
the wife at marriage has great influence on the number of 
children to a family, the general rule being that the older 
the wife the fewer the children. These two propositions 
may be accepted as premises in all reasoning in reference to 
the population question. 

The economists who make prominent physiological con- 
siderations in their discussions of population try to estab- 
lish the general law that the reproductive capacity of 
animals stands in a definite* relation to the complexity of 
their nervous organizations. The more highly evolved the 
organism, the smaller, it is contended, will be the number 
of the offspring. Even if this theory be true in its appli- 
cation to different orders of animals, including man, it 
remains open to question whether the subtle changes which 
are still going on in man's nervous organization can be 
shown to influence appreciably his reproductive capacity. 
Reasoning from analogy that because men beget fewer off- 
spring than lower orders of animals, highly developed men 
and women must be less fruitful than those who are less 
developed is suggestive, but not conclusive. On the other 
hand, statistics of population have not yet been perfected 
to a point that makes a test of the theory in the light of 
the facts of experience possible. It must be regarded as 
an interesting hypothesis rather than as an established 
principle. 

That the growth of population is controlled by social 
customs and standards is admitted by all students of the 
question. Among primitive peoples customs like that of 
exposing female children at their birth have a direct influ- 
ence on the growth of population and may serve as sub- 
stitutes for all other checks. Marriage customs also have 
the greatest influence. Other things being equal, polyg- 



THE ECONOMIC CHECK 209 

amous marriages are favorable to a rapid growth of 
population ; monogamous marriages, on the other hand, 
tend to restrain such growth. Other customs, such as 
that requiring that the husband shall be able to provide a 
house for his wife, or that the wife shall have made with 
her own hands an elaborate trousseau before marriage, 
serve to postpone the period of marriage and indirectly to 
check the growth of population. As the customs and 
usages of different peoples are all molded to one common 
standard through international intercourse, the special re- 
straints on population which once acted in particular 
localities will lose their force. Public opinion still controls 
in large measure the conduct of individuals in their mar- 
riage relations, but its prescriptions are based to an ever 
increasing extent on economic considerations, and this 
brings us to the third factor controlling population. 

113. The Economic Check to the Growth of Popula- 
tion. — The most obvious and certain economic check upon 
population is that emphasized by all writers since the sub- 
ject began to attract attention, namely the need common to 
all men for food, clothing and shelter as conditions to con- 
tinued existence. Population is checked by starvation, dis- 
ease and death as soon as the number of the people reduces 
the earnings of the lowest grade of wage-earners below 
what is needed to maintain and rear an average family. 
This " positive check " is unfortunately of more than his- 
torical interest. Every country has its " submerged 
tenth " of unfortunates who suffer habitually from under- 
nutrition and resulting disease and death. The members 
of this class are constantly changing. Those who neither 
die nor win their way back to the classes from which they 
descend, are forced in time to apply for institutional relief 
and to enter the still lower class of avowed social depend- 
ents. It follows that the normal tendency of the class is 
towards self -extinction. It is perpetuated, if not actually 
added to, in countries like the United States, by the steady 



210 VALUE AND DISTRIBUTION 

stream of recruits that descends to it from the higher in- 
dustrial classes. 

Actual starvation confronts more rarely those belonging 
to the class of manual workers, but for them also under- 
nutrition is a possibility which prolonged illness or inability 
to obtain employment may at any time change into a 
reality. The narrow margin which their usual earnings 
provide above the bare necessaries of life, coupled with their 
lack of accumulated savings, makes them especially liable, 
when some temporary calamity reduces their incomes, to 
sink permanently below the line of self-support and self- 
respect. At the same time, for this class as a whole it is 
not disease and death, but sacrifices induced by the desire to 
maintain the " standard of living," that act as the princi- 
pal check upon the growth of population. As this check 
acts in about the same way, although not in the same de- 
gree, on all classes above the very lowest, its influence may 
be discussed in general terms. 

114. Influence of Standards of Living on the Growth of 
Population. — The population of a country like the United 
States is divided up into hundreds of different classes, each 
distinguished by special industrial qualities and having a 
different earning capacity from the others. The general 
law applying to the earnings of all classes is that an in- 
crease in the number of persons competing for any partic- 
ular grade of work tends to lower the wages paid for that 
kind of work. The tendency may be counteracted by an 
increased demand for the grade of work concerned, or by 
similar increases in the supplies of workmen and of capital 
goods all along the line unaccompanied by any lowering 
of the margin of cultivation, but in the absence of these 
changes it is always to be reckoned with. As already ex- 
plained (Section 98) different classes are more or less clearly 
marked off from one another and it is a usual thing for 
children to fit themselves for the grade of work done by 
their parents. In a stationary society the number of work- 



STANDARDS OF LIVING AND POPULATION 211 

men in each grade would need to be kept constant if a 
change in wages was to be avoided. Children in each grade 
would need, on the average, just to replace those withdrawn 
by death, or the birth-rate for each grade would need just 
to equal the death-rate, if there was to be no reduction 
in the standard of comfort. Although few modern societies 
are stationary, it will be useful to note what this condition 
of affairs would involve as regards the habits of a popula- 
tion before passing to a discussion of the limitations which 
are active in a progressive society. 

The standard of living has been defined as the " mode of 
activity and scale of comfort which a person has come to 
regard as indispensable to his happiness, and to secure and 
retain which he is willing to make any reasonable sacrifice." 
From the point of view of the growth of population the sac- 
rifices which the maintenance of the standard of living may 
entail are the postponement of marriage and the restriction 
of births after marriage. In the assumed situation these 
sacrifices would have to be incurred to the extent necessary 
to prevent population from increasing at all. Consider 
how this might be accomplished for any given class in the 
population. As children attain maturity and begin to seek 
for employment they will find the number of desirable 
positions limited and the competition for them severe. This 
discovery will affect different ones quite differently. Some 
in every class will accept the best positions they can get, 
adjust themselves to the limited incomes these positions 
afford and marry early without much regard to con- 
sequences. They are likely to have larger families than 
they can easily provide for and may be so discouraged in 
the struggle that they will fail to maintain their standards 
of living or to give their children as good starts in life as 
they themselves enjoyed. Or, instead of being discour- 
aged by the difficulties they encounter, they may only be 
inspired to put forth greater efforts. Marriage is the 
spur to lagging ambition which many young men require, 



212 VALUE AND DISTRIBUTION 

and instead of preventing them from attaining the best 
and highest of which they are capable it proves often the 
very means of helping them to such attainment. Such men 
raise their standards of living rather than lower them as 
their responsibilities multiply, and conceive plans for their 
children that they would have been incapable of formulat- 
ing for themselves. Besides those who marry early, there 
are others with greater prudence who refuse to assume 
the responsibilities of married life until they are well estab- 
lished. By the time such men feel able to marry their in- 
clination to do so may have passed, or, if they do marry, 
their families are likely to be small. Allowing for men and 
women who do not marry at all, for childless marriages and 
for infant mortality, which is high in even the most ad- 
vanced communities, we may conclude that the prudence 
and forethought of only a part of the members of 'each class 
will keep a population stationary, even though a large num- 
ber are quite reckless in their marriage relations.* Great 
prudence on the part of some will serve to offset great 
recklessness on the part of others. 

In a progressive society like the United States the con- 
ditions differ from those just described only to the extent 
that progress permits an increase in population without 
any lowering of the standards of living. If the rate of 
progress is rapid enough standards may be maintained 
and even advanced at the same time that population is 
growing as rapidly as early marriages and large families 
permit. Under such circumstances the power of resistance 
which the standard of living offers is not brought into 
play at all, and it is more accurate to speak of wages as 
determining the rising standard than of the standard as 
determining the rising wages. Few countries are so favor- 
ably situated as this. Even in the United States, espe- 
cially as regards the higher industrial classes, population 

* The population of France is practically stationary, although three 
children to a family is the average in that country. 



INFLUENCE OF IMMIGRATION 213 

has been held in check by the standard of living. In periods 
of great prosperity the tendency is for earnings to increase 
and for standards to rise. The causal relation is from 
wages to the standard. In times of depression the higher 
standard is maintained and serves to prevent the fall in 
wages that would inevitably follow if marriages continued 
to be as numerous as they were before. The causal rela- 
tion is now from the standard to wages. 

A complicating circumstance that makes it difficult, if 
not impossible, to form any conclusion in reference to the 
power of resistance which the standard of living of the 
manual laboring class opposes to falling wages, is emigra- 
tion and immigration. For example, Germany's popula- 
tion continues to increase at about the same rate decade 
after decade, and the surplus is disposed of by emigration 
without any lowering of the earnings of the workmen who 
remain in the Fatherland. It can only be guessed whether 
population would be checked by the standard of living, so 
that earnings could be maintained, should some circum- 
stance close to German emigrants the countries to which 
they are now welcomed. In a reverse way immigration 
prevents any gaging of the power of resistance of the 
standard of living of America's manual laboring class. 
The steady stream of immigrants with lower standards 
from Europe is a demoralizing influence, but the latter have 
thus far been assimilated without any serious decline in 
earnings. If immigration were to cease and a long period 
of depression were to threaten a reduction in the wages of 
the laboring population, it is quite problematical whether 
the standard of living would serve to check marriages and 
births to the extent that would be necessary to prevent such 
a reduction. 

In the opinion of most contemporary economists the 
standard of living is an effective means of control over the 
growth of population, and the tendency among progressive 
countries generally is for standards to rise and to insure to 



214 VALUE AND DISTRIBUTION 

the rank and file of the population ever larger command 
over the material conditions necessary to happy homes and 
happy lives. This opinion must be accepted, if at all, on 
the strength of general considerations and of the undoubted 
fact that the real earnings of the manual laboring class 
are larger than at any previous stage in the world's his- 
tory. The primary cause of their improvement has been 
the improved methods of production that have been referred 
to frequently in these pages. Rising standards of living 
have doubtless been a secondary cause, since it is highly 
probable that but for them population would have kept 
pace with the new methods and prevented the earning 
capacity of the bare-handed workman from increasing. 
Before attempting a summary statement in reference to 
the influences controlling the growth of population and 
through it wages, it will be well to consider how the growth 
of capital or wealth is controlled. 

115. Statistics in Regard to the Growth of Wealth and 
Capital. — As in discussing the growth of population, so 
in discussing the growth of capital, we will begin with a 
brief study of the facts and consider subsequently theories 
touching the causes controlling capital accumulation. 
Unfortunately statistics in regard to the growth of capital 
are usually available only as they are included in statistics 
of wealth generally and are much less trustworthy than 
are statistics of population. For these reasons we will 
confine our inquiry to the United States. The statistics 
for other lands, could we examine them, would confirm 
the impression that those for the United States con- 
vey — that the present tendency in progressive countries 
is for capital to increase at a more rapid rate than 
population. 

The following table gives the estimates of the total 
wealth of the country in its various forms in 1890, 
1900 and 1904 made by the United States Census 
Bureau. 



THE GROWTH OF CAPITAL 215 

TOTAL WEALTH IN THE UNITED STATES 
(In $1,000,000,000) 

1890 1900 1904 

Real estate with improvements 39.5 52.5 62.3 

Live stock on farms, farm implements and 

machinery 2.7 4.1 4.9 

Gold and silver coin and bullion 1.2 1.7 2.0 

Manufacturing and mining machinery and 

products on hand 4.4 9.0 11.1 

Railroads and equipment 8.7 9.0 11.3 

Street railways, telegraphs, etc 0.7 3.5 4.8 

Miscellaneous 7.9 8.7 10.7 

Total 65.1 88.5 107.1 

Average per capita , $1,039 $1,163 $1,310 

These statistics are little better than rough estimates so 
too much reliance must not be placed on the exact accuracy 
of the conclusion to which they point, that is, that during 
the fourteen years covered per capita wealth increased over 
26 per cent. More trustworthy are the following statistics 
showing the increase, for each decade since 1850, of the 
value of all farm property in the country and of the capital 
invested in manufactures. 









Capital 






Value of all 




Invested in 






Farm Property 


Increase Manufactures Increase 




($1,000,000,000) 


Per Cent 


($1,000,000,000) 


Per Cent 


1850 


4.0 


... 


0.5 


. . . 


1860 


8.0 


100 


1.0 


100 


1870 


8.9 


11 


2.1 


110 


1880 


12.2 


37 


2.8 


33 


1890 


16.1 


32 


6.5 


132 


1900 


20.4 


26 


9.8 


51 



From these figures it may be inferred that the wealth of 
the country increased from 1890 to 1900 by an increment 
somewhere between 26 per cent, the estimated increase in 
agriculture, and 51 per cent, the estimated increase in 
manufacturing. As population increased during the 
decade less than 21 per cent, the statement that capital 
grew more rapidly than population appears abundantly 
justified. 



£16 VALUE AND DISTRIBUTION 

In interpreting these and other statistics of wealth and 
capital great caution is necessary. Where such statistics 
have been collected by the inventory method, as is attempted 
in the United States, important items are sure to be omitted 
while other items are sure to be duplicated. On the other 
hand, where such figures are calculated from returns as to 
incomes from different sources, errors may arise either 
from inaccuracies in the incomes reported or from mis- 
takes in the method by which the amount of capital giving 
rise to incomes is inferred from the amount of incomes. An- 
other difficulty is encountered when it is attempted to infer 
statistics in reference to capital from statistics of general 
wealth. The normal effect of an increase in capital is a 
decline in the rate of interest, but this serves itself to 
increase the value of lands, monopolies and other sources of 
fixed incomes. It follows that as capital increases and the 
rate of interest falls, the apparent increase in wealth is 
likely to be much greater than the actual increase in 
economic goods. Still another source of error is in 
changes in the prices of goods, but enough has been said to 
indicate that statistics of wealth and capital must be inter- 
preted with great caution if serious errors are to be 
avoided. We have now to consider theories as to the causes 
which control the accumulation of capital or the growth 
of wealth. 

1 1 6. Influences Controlling the Growth of Capital. — 
Since capital goods owe their existence primarily to a will- 
ingness on the part of men to postpone consumption or to 
save, the increase of such goods is affected by everything 
which influences this willingness. What, then, are the in- 
ducements to saving and what the opposing motives for 
spending? The latter have already been considered (Sec- 
tion 14). It is the tendency of men to overestimate the 
importance of the present in comparing it with the future, 
and this leads them normally to prefer present command 
over consumable goods to future command over goods of 



THE GROWTH OF CAPITAL 217 

like kind and quantity, present gratifications to similar 
gratifications at some future date. 

Four reasons may be assigned for the above tendency. 
First and most obvious is the fact that provision for pres- 
ent necessities is the indispensable condition to the continu- 
ance of life. The shipwrecked mariner who has provided 
himself with subsistence for one week has no choice between 
consuming it this week or next month. His present need 
of food must be satisfied and must loom larger in his con- 
sciousness than his need at some future time. This fact 
prevents men from saving that portion of their incomes 
needed for present necessities. Secondly, the future is un- 
certain. No man knows, when making provision for the 
future, that he will live to enjoy it. This was summed up 
in pagan philosophy in the phrase, " eat, drink and be 
merry, for to-morrow we die." The Christian religion also 
emphasizes the uncertainty of life in that it directs men to 
take no thought for the morrow, but to devote their days 
to good works and the preparation of the spirit for the 
immortal life to come. Either course is obviously unfavor- 
able to the accumulation of capital. A third reason is 
found in man's deficiency in imagination. Present wants 
are actually felt, those of the future are only imagined. 
The consequence for the average man is an underestimate 
of the importance of future gratifications which makes him 
unwilling to forego present pleasures on their account. 
Finally, a fourth reason is man's lack of resolution or will. 
Many who have the most vivid imaginations are, neverthe- 
less, proverbially improvident. This is because they have 
not the strength of character to resist the temptations of 
the present and provide in advance for the needs of the 
future which they so clearly foresee. 

These reasons combined predispose the average man to 
spend his income as he receives it. The proportion that 
he will spend depends in a measure on the amount of that 
income. If it is small, most, if not all, must go for present 



218 VALUE AND DISTRIBUTION 

necessities. The poverty of the poor is an almost insur- 
mountable obstacle to their ever becoming rich. Those 
who are more fortunately situated compare in their minds 
present comforts and provision in advance for future 
necessities, or present luxuries with future comforts. 
With an ample income even the most improvident person 
is likely to make some provision for the future. More 
prudent people are likely to save something though their 
incomes be small. 

The strongest counter-motive to spending is the desire to 
provide for one's self and one's family after old age has 
come and earning power has been reduced or has failed al- 
together. This is important because it applies to nearly 
everyone. Its practical consequences are reflected in the 
vast sums which are paid each year in progressive countries 
as premiums to life insurance companies.* Some of these 
payments secure for the family a fixed sum upon the death 
of the insured. A more common form of policy at present, 
however, is one which calls for payment of the principal 
after a certain number of years, even though death has not 
occurred. This reflects clearly the general appreciation of 
the fact that old age means usually diminished earning 
power. Next in importance to the desire to provide for 
old age as a motive to saving is ambition to command 
social esteem, power and influence. That " wealth is 
power " of a certain kind is a fact universally appreciated. 
Those who covet power at the present day are very apt 
to seek it through the avenue of wealth accumulation. 
Though less general than the first motive, this is doubtless 
the dominant consideration to those men who acquire the 
largest fortunes. A third motive to saving is the interest 
which may be obtained for the use of capital, which is itself 
traceable to the superior efficiency of capitalistic produc- 
tion. Economists have tended to exaggerate this motive 

* The annual incomes of. such companies in the United States, de- 
rived chiefly from premiums, exceed $650,000,000. 



CAUSES OF GROWTH OF CAPITAL 219 

in declaring that " interest is the reward of. saving." It is 
certainly not true that interest is the only reward or even 
the chief reward of saving, or that the greater part of the 
saving which now occurs would cease if the interest now 
paid for the use of capital were to be withdrawn. Interest 
is the reward of saving, however, in the sense that all those 
who save under present industrial conditions may, and as 
a rule do, receive interest as one of their compensations. 
Furthermore, to some of those who save interest is the re- 
ward that is chiefly considered, and the rate of interest has 
a determining influence on the amount of income they are 
willing to save. A fourth motive to the accumulation of 
capital is ambition for business success. Many of the men 
who succeed best in business in the United States seem 
devoid of other ambition. They have become absorbed in 
the game of making money and persist in it because it in- 
terests them more than anything else, though they have no 
very clear idea to what use they will put their fortunes 
after they are acquired. To such men business success is 
the all-important object, and capital is accumulated simply 
because it is a necessary step towards the attainment of 
the goal. 

Comparing the four motives inducing men to spend with 
those inducing them to save, we may conclude without 
argument that progress tends to strengthen the latter and 
to weaken the former. The pressure of current needs, the 
uncertainty of life, lack of imagination and weakness of 
will are all becoming less prominent influences shaping the 
conduct of the average man. On the other hand, desire to 
provide for the family, social ambition, willingness to post- 
pone consumption for the sake of interest and ambition 
for business success seem on the increase. These changes 
are responsible for the tendency already described for 
capital goods to multiply more rapidly than population, 
for the operation of the law of diminishing returns as re- 
gards capital as a whole and for the declining rate of 



220 VALUE AND DISTRIBUTION 

interest so marked in the United States during the last 
forty years. 

117. The Ultimate Determinants of Distribution In 

the explanation of distribution that has been given, great 
importance has been ascribed to the productiveness of labor 
and capital in marginal industries, and it has been stated 
that the location of the margin of production depends 
upon the extent of the land and natural resources of a 
country in proportion to its population and capital. We 
have just considered the various influences that control 
the growth of population and of capital, and we are 
now in a position to indicate the ultimate determinants of 
distribution. 

In the isolated life of a Crusoe economic conduct requires 
an exact balancing of the marginal gratifications, or utili- 
ties, derived from consumption and the marginal sacrifices, 
or disutilities, involved in production (Section 25). Work 
should be carried to that point at which pleasure ceases to 
compensate for sacrifices and at that point it should stop. 
In industrial society economic relations are vastly more 
complex. Marginal utilities are calculated, not by each 
individual separately, but by groups of individuals. Mar- 
ginal disutilities include not merely effort, but also post- 
poned consumption. They also are calculated, not by each 
individual separately, but by groups of individuals, some 
of whom contribute the efforts necessary to production 
and others the waiting necessary to the existence of the 
capital goods indispensable to efficient production. In 
explaining distribution we started with the valuations 
which consumers place upon goods and analyzed the causes 
which control the division of the values so determined 
among the factors which co-operate in production. But 
consumers are as a rule themselves producers. Like Crusoe, 
though in a less simple and direct way, they compare the 
utilities of the goods they consume with the disutilities con- 
nected with the part they play in production. This is not 



ULTIMATE DETERMINANTS 221 

true of consumers whose wealth comes to them because they 
control sources of fixed income, since such persons make 
no present sacrifices as a condition to securing command 
over purchasing power. Nor is it true of consumers who 
receive interest for capital they have accumulated, not in 
order that they may secure interest, but in deference to one 
of the other motives that have been described. Such con- 
sumers also make no present sacrifice in return for the pur- 
chasing power they receive. Nor is it true of workmen 
who find their work a pleasure and whose hours are fixed 
not by calculations of marginal disutility which they them- 
selves make, but by standards determined by the weaker 
members of the industrial groups to which they belong.* 
It is true, however, of capitalists who are just induced 
by the promise of the current rate of interest to save and 
invest in preference to spending. Such men balance the 
marginal utilities of the goods which the interest will enable 
them to command against the marginal disutility of defer- 
ring consumption. It is also true of the marginal work- 
men in each group who determine by their calculations the 
length of the workday for their class. For them the 
marginal disutility of the final hour's labor is a painful 
reality which they balance in their minds against the added 
goods which the pay for this last hour enables them to 
command. If the balance is on the negative side they are 
ripe for a strike for a shorter workday, and if their feel- 
ings are the feelings of their group they are likely to 
secure it. 

Besides the calculations which determine the accumula- 
tion of capital and the length of the normal workday, there 
are others which fix standards of living and through them 
control, perhaps, the rate at which the working popula- 
tion increases. To maintain wages men in different indus- 

* For example, many a mechanic who limits his work to eight hours 
a day, would gladly work an additional hour for proportionate pay, 
but is prevented from so doing by loyalty to the rule of his union. 



222 VALUE AND DISTRIBUTION 

trial groups incur the sacrifices involved in a postponement 
of marriage or restriction of births after marriage, and 
in the long run these sacrifices are compensated, and only 
just compensated, so far as the standard of living controls 
wages, by the higher earnings which such conduct insures 
to the class benefited. 

A full analysis of the motives that enter into the bal- 
ancing of utilities and disutilities in industrial society, and 
of the equilibrium that results from them, belongs to a more 
advanced treatise on economics. In actual progressive 
societies changes occur so frequently that an exact balanc- 
ing is something constantly aimed at, but never secured. 
In men's efforts to realize it, the ultimate determinants of 
value and distribution are, however, to be sought. 



REFERENCES FOR COLLATERAL READING 

* Mayo-Smith, Statistics and Sociology, Book I., Chaps. V., VI. 
and VII., and Statistics and Economics, Book I., Chap. V.; * Fetter, 
Principles of Economics, Chap. XLIII.; * Bullock, Selected Readings 
in Economics, Chap. IX. ; * Clark, The Distribution of Wealth, Chap. 
XXIV.; * Marshall, Principles of Economics, Book IV., Chaps. IV. 
and VII., Book VI., Chap. XI.; Bohm-Bawerk, The Ultimate Stand- 
ard of Value (article in Annals of American Academy of Political 
and Social Science, Vol. V., pp. 149-208). 



CHAPTER XIV 

MONEY AND THE MONETARY SYSTEM 
OF THE UNITED STATES 

1 1 8. The Nature and Functions of Money. — As has 
already been pointed out (Section 48) every extension of 
co-operation and the division of labor, beyond the simple 
division of tasks possible within the family, must be accom- 
panied by a corresponding development of the system of 
exchange. The simplest kind of exchange is barter; but 
this has serious drawbacks, since it can take place only 
when two traders come together, each having in his pos- 
session a commodity preferred by the other. Even this 
unusual situation will not lead to an exchange unless the 
parties can agree as to the terms of the bargain. Thus, 
under the system of barter, the American Indian with a 
pony to dispose of had to wait until he met another Indian 
who wanted a pony and at the same time was able and 
willing to give for it a blanket or other commodity that 
he himself desired. Even when pony and blanket came 
together an exchange through barter might be prevented 
by the fact that one of the owners thought his commodity 
worth somewhat more than that of the other. Neither 
pony nor blanket could be divided, and in consequence hig- 
gling over the trade would be quite as likely to lead to a 
quarrel as to a transfer of property. 

The inconveniences connected with barter led, at an 
early period in the history of civilization, to the introduc- 
tion of a medium of exchange, or money. Although no 
exact account of the steps preceding this important inno- 
vation has been preserved, it is not difficult to reconstruct 

223 



224 THE MONETARY SYSTEM 

in imagination the circumstances which determined the 
choice of the medium of exchange and caused it gradually 
to come into general use. Inability to barter surplus 
products for the exact commodities desired must have sug- 
gested the feasibility of bartering them for other products 
that were in more general demand, more durable or for 
some other reason more exchangeable. Thus the owner of 
surplus game who was unable to get for it the arrow- 
heads he desired, would be glad to accept instead some 
durable ornament generally prized in the community, such 
as a string of beads. His chance of exchanging the latter 
for arrow-heads would be excellent, and would certainly 
be preferred to the prospect of having his game left on 
his hands. In some such way commodities must have come 
to be distinguished, even in primitive communities, by ref- 
erence to their exchangeability, and the most exchange- 
able commodities must gradually have come into use as the 
media of exchange. 

Quite as important as a medium of exchange to the de- 
velopment of an industrial community is a standard, or 
common denominator, by means of which the values of 
commodities may be compared. Without such a standard 
the value ratio between each commodity and every other 
dealt in must be remembered by the trader. For example, 
if he deals in ten commodities there will be forty-five ratios 
of exchange to be remembered. The use of a standard of 
value enables him to substitute for these forty-five possible 
exchange ratios the nine ratios between the value of the 
selected commodity and the values of the others. The 
smaller number of ratios under the new system tell exactly 
the same story as the larger number did before. Thus, 
instead of remembering that a string of beads is worth 
four deer, that two deer are worth an arrow-head and that 
two arrow-heads are worth a string of beads, it suffices 
for the trader to remember that a deer is worth one- 
quarter, and an arrow-head one-half of a string of beads. 



PRICES AND THE VALUE OF MONEY 225 

To serve as a standard, or common denominator, of value 
is a second function of money, and to fulfil it, as to fulfil 
the first, the commodity selected for the purpose must 
possess in high degree the quality of exchangeability. 

In addition to serving as a medium of exchange and a 
standard for comparing exchange values, money, or the 
monetary unit, serves in modern industrial communities as 
the medium for credit transactions, or deferred pay- 
ments. Promises to pay in the future for value received 
in the present are habitually expressed in terms of money. 
To serve as a standard for deferred payments is thus 
money's third function. 

119. Prices and the Value of Money Vary Inversely. 
— Price, as already explained, is exchange value measured 
in terms of money. In the United States and other gold- 
standard countries prices express the value ratios between 
the commodities priced and gold. To say that a bushel 
of wheat is worth $1 is equivalent to saying that a bushel 
of wheat will exchange for 23.22 grains of pure gold, 
since this is the standard dollar of the country. If the 
price of wheat should rise to $1.25 (i. e., to 29.02% 
grains of pure gold), the value of gold measured in terms 
of wheat will have fallen correspondingly. One dollar, or 
23.22 grains of gold, will now exchange for only four- 
fifths of a bushel of wheat. Thus every change in price 
registers a corresponding change in the exchange value of 
gold measured in terms of the commodity priced. To de- 
termine with certainty whether any given change in prices 
is due to a change in the value of the commodity, or in the 
value of gold, the standard money, it is necessary to make 
a general comparison in which all important commodities 
are included for the two periods. If in the given case it 
should be found that while the price of wheat rose other 
prices remained constant or fell, it might fairly be con- 
cluded that the value of gold had not fallen and that the 
change was due to a rise in the value of wheat. 



226 THE MONETARY SYSTEM 

Some writers describe money as the measure of values, 
but it is evident that it is not a measure to be compared 
with a foot-rule or a bushel. It is a convenient standard 
for comparing values or a common denominator to which 
all values may be reduced; but as a measure of values in 
any absolute sense it is untrustworthy, since it is itself 
variable in value. This variability is a source of annoy- 
ance and loss to the business community, and hence, as ex- 
plained in the next section, stability of value is one of the 
qualities essential to a good money. 

120. Qualities of Good Money. — Present-day monetary 
systems are the result of an historical evolution. In the 
past, in different countries, nearly every kind of commod- 
ity has served as money. The ox is the standard of value 
referred to in the earliest literature of Greece and Rome. 
In Africa cubes of salt have been used. Tea was used at 
one time in parts of Asia. In America the Indians used 
strings of beads, which they called wampum, and for a 
time wampum was also used for small payments among 
the colonists of New England. In Virginia tobacco long 
served as the standard of value, and efforts were made to 
fix by law the value ratio between it and the coins which 
found their way to the colony from Europe. As a result 
of experiment, all civilized countries have now come to the 
use of the metals as money, and all of the more important 
commercial countries have fixed upon gold as their stand- 
ard and relegated other metals to a subordinate position 
in their monetary systems. The reasons for the preference 
for gold become clear from a consideration of the qualities 
which should be possessed by a good money. 

Economists quite generally agree that the commodity 
selected to serve as money should have the following qual- 
ities: (1) value, (2) durability, (3) portability, (4) ho- 
mogeneity, (5) divisibility, (6) cognizability and (7) 
stability of value. That the commodity which is to serve 
as the intermediary between valuable things must itself 



QUALITIES OF GOOD MONEY 227 

have value is obvious. Durability is important because 
after each exchange transaction the medium of exchange 
must remain for a longer or shorter time in the possession 
of the seller. Unless it is durable, it will depreciate dur- 
ing this interval to the seller's loss. This consideration 
precludes the use of perishable articles as money and ac- 
counts for the world's preference for the metals. Porta- 
bility is indispensable to the convenience of a medium of 
exchange. Other things being equal, the commodity 
which compresses the greatest value in the smallest bulk is 
the most economical medium of exchange for large trans- 
actions. In this respect gold is superior to silver and this 
accounts in part for the preference for it of leading com- 
mercial nations. Homogeneity and divisibility are related 
qualities, since together they insure that the commodity 
used as money may be divided and subdivided without loss 
in value. These qualities also distinguish the metals. 
Cognizability is important as it renders difficult the circu- 
lation of counterfeit money. One objection to silver is 
the resemblance to it of the baser metals, lead and tin. 
The last quality, stability of value, is essential in con- 
nection with the function which the monetary unit per- 
forms as a standard of deferred payments. In the ab- 
sence of such stability creditors and debtors have no guar- 
antee that the contract between them calling for the pay- 
ment of a certain sum of money at a future date will in- 
volve the return of a value equivalent to that loaned. If 
the value of money rises in the interval the debtor will be 
injured, if it falls the creditor will receive less than he 
anticipated. Either event must discourage transactions 
involving such an uncertain element, and it is for this 
reason that the importance of stability of value in the 
commodity which is to serve as money can hardly be ex- 
aggerated. As regards this quality also gold has a 
marked superiority over most other things. The demand 
for it is very elastic because it serves such a variety of 



, THE MONETARY SYSTEM 

different ptirposes. It is highly prized for ornament; it 
is used in watch-cases, family plate, etc., as a badge of 
social position ; it serves important industrial uses in con- 
nection with dentistry, etc., and finally it is now so widely 
used as money that the monetary demand for it is large. 
On the side of supply the conditions are equally favorable 
to stability of value. Because it is precious and at the 
same time durable, the greater part of the total quantity 
produced, at least in modern times, has been preserved and 
is still available to satisfy current needs. In proportion 
to the total stock (estimated at $11,000,000,000) the 
a*nnual addition to the supply due to production is insig- 
nificant. The supply is thus practically constant over 
short periods and is little affected by variations in the 
annual output of the world's mines. Elasticity of demand 
and constancy of supply, the conditions favorable to sta- 
bility of value, are thus presented by gold as by no other 
commodity. This is the final reason for the world's pref- 
erence for it to serve as its standard money. 

121. Coinage and the Printing of Paper Money. — The 
choice of the medium of exchange and standard of value 
was a subject which early engaged the attention of organ- 
ized governments. They did not create the monetary sys- 
tems that are found to-day, but they gave them a legal 
sanction which has added materially to their efficiency. 
Laws at present control the monetary systems of civilized 
countries in two vital respects : they declare what forms of 
money shall be a legal tender, that is, shall be accepted 
in legal payment of all obligations calling for money, 
either between individuals or between the state itself and 
its subjects, and they determine the conditions under which 
these forms of money and other media of exchange that 
serve the convenience of the business community shall be 
manufactured and put into circulation. 

The manufacture of metallic money is called coinage 
and has become a government monopoly in all advanced 






COINAGE AND PAPER MONEY 229 

countries, for the simple reason that this has been found 
by experience to be the surest means of maintaining a per- 
fectly reliable coinage system. At first coining con- 
sisted merely in stamping the head of the sovereign and 
an indication of the weight of the coin on one of the 
faces of a flat disc of metal. So long as this only was 
done, it was necessary at every transaction to weigh the 
pieces of money offered in exchange to make sure that they 
had not been " clipped " since leaving the mint. This 
necessity was obviated by the second step in the progress 
of coinage, which was to stamp the reverse face of the disc 
of metal. A third step consisted in " milling " the edges 
of the coin and thereby rendering it impossible to trim it 
without detection. At the same time that these improve- 
ments in the process of coinage were made, stringent regu- 
lations were passed forbidding the mutilation of coins, and 
requiring those having in their possession pieces whose 
weight had been reduced below a certain standard to re- 
turn them to the mint, so that they might be remelted and 
reissued at full weight. Withdrawing the character of 
legal money from " light " coins has proved a simple and 
effective method of enforcing the latter provision. In 
addition to coins, most modern governments issue one or 
more forms of paper money. Although devised originally 
as a means of securing revenue, such money, on account of 
its convenience, has won for itself a permanent place 
among the media of exchange preferred by intelligent 
business communities. Printing and engraving paper 
notes have thus become as important a function of gov- 
ernment as minting coins, and quite as great progress 
has been made in manufacturing notes that are at once 
durable and so cognizable as to defy the ingenuity of 
counterfeiters. 

In the monetary systems of most modern states three 
different kinds of money may be distinguished — standard, 
token and credit money. Standard money is that to the 



THE MONETARY SYSTEM 

value of which the values of all other kinds of money in 
circulation are adjusted. It may be self -regulating, as 
when the law declares that a certain weight of the metal 
selected for the standard shall constitute the standard 
coin and permits all persons bringing such metal to the 
government mints to have it converted into coin either 
gratuitously or on the payment of a small fee, called 
seigniorage. This system is designated " free coinage," 
and has been adopted by all the more important commer- 
cial nations. Alternative to it is the system of " fiat " 
money, that is, money issued on the authority of the gov- 
ernment and made to circulate by being declared a legal 
tender. Such money is usually accepted at the outset 
with some misgiving, but after a time people become accus- 
tomed to it, and if the amount issued is controlled so that 
there are no violent changes in the value of the monetary 
unit, it may serve nearly as well for ordinary transactions 
as self-regulating money. 

Token money is money which is issued for use as small 
change in connection with minor transactions. It is 
usually made of a baser metal than the standard and put 
out in just the quantity that suits the convenience of the 
business community. Credit money supplements standard, 
and is issued on the credit of the government. It is re- 
deemable in standard coin on demand, and differs from 
token money only in that it is designed to serve as a 
medium of exchange for large as well as small transac- 
tions. As business communities learn to appreciate the 
superior convenience of paper money, the field for credit 
money steadily widens. In the United States a stage has 
already been reached where credit and token money con- 
stitute, with credit substitutes for money such as checks 
and drafts, practically the entire medium of exchange of 
the country. 

122. Gresham's Law. — From early times governments 
have struggled to keep different kinds of money in concur- 



GRESHAM'S LAW 231 

rent circulation. The ill success of such efforts led in the six- 
teenth century to the formulation by Sir Thomas Gresham, 
one of the advisers of Queen Elizabeth, of the principle 
known as " Gresham's Law." This is to the effect that 
when two or more kinds of money circulate concurrently, 
that kind the material of which is most enhanced in value 
by being given monetary form tends to drive out of cir- 
culation those kinds the materials of which have been less 
enhanced or unchanged in value by being given mone- 
tary form, that is, cheaper tends to drive dearer money 
out of circulation. This is very like asserting that 
poor money tends to drive out good and needs careful 
explanation. 

An illustration will help to make clear the reasons back 
of Gresham's Law. In 1792 the Congress of the United 
States passed a coinage law adopting the bimetallic sys- 
tem. Both gold and silver dollars were made full legal 
tender, and the Secretary of the Treasury was instructed 
to coin both metals freely for all applicants and to put 
fifteen times as much silver into the standard silver dollar 
as he put of gold into the standard gold dollar. This is 
conveniently expressed by saying that the law provided 
for a mint ratio of 15 to 1. Some time after this act 
went into effect the market or commercial ratio between 
silver and gold became 15% to 1. The situation then 
was that our mint coined bullion into money, making an 
ounce of gold equivalent to fifteen ounces of silver, while 
in the world's market an ounce of gold was equivalent to 
151/2 ounces of silver. Since silver coin was made by law 
just as good money as gold within the limits of the United 
States, it was under these circumstances the cheaper me- 
dium for the payment of debts within the country. More- 
over it was profitable to export gold coin, exchange it for 
silver bullion, import the latter and have it converted into 
the overvalued silver money. For this reason such gold as 
was coined was, in accordance with Gresham's Law, driven 



232 THE MONETARY SYSTEM 

from circulation, and the country was brought to the 
cheaper silver standard. 

The above demonstration of Gresham's Law may seem 
to prove too much. If silver drove out gold after 1792, 
why, it may be asked, does it not now drive out gold, and 
why does not paper money drive out both gold and silver? 
The reason is not far to seek. Gresham's Law describes 
a tendency. After 1792 that tendency was quickened 
into active life because the free coinage of silver opposed 
no obstacle to the substitution of the cheaper for the 
dearer money, so long as any of the latter remained in 
circulation. To-day the tendency is dormant because the 
quantity of silver and paper money put into circulation 
is rigidly limited, and is far from sufficient to meet the 
monetary needs of the country. This cheaper money, at 
the time it was first issued, did drive out gold; but ob- 
viously it could not drive out more dollars than it could 
itself replace. The limitation on its supply permits some 
gold to remain in circulation. Gresham's Law still oper- 
ates, however, as every bullion broker knows, when gold is 
to be exported, for at such times great pains are taken 
to select only full-weight coins for shipment. Any circum- 
stance which should increase the volume of silver or paper 
money in circulation or reduce the country's need for 
money, would serve to increase the exportation of gold 
coins, and, if persistent, might cause light as well as full- 
weight coins to be withdrawn until no gold was left in 
circulation. 

123. The Adoption of the Gold Standard. — In adopt- 
ing the bimetallic system in 1792 the United States sim- 
ply fell in with the general practice of European nations. 
That system has since been given up as the result of the 
conviction impressed upon one country after another that 
gold and silver cannot be kept in concurrent circulation at 
any arbitrarily established mint ratio. England was 
one of the first countries to arrive at this conclusions and 



ADOPTION OF THE GOLD STANDARD 233 

adopted the single gold standard in 1816. On the conti- 
nent the struggle to maintain a double standard was con- 
tinued until the third quarter of the last century. Find- 
ing it difficult to keep both gold and silver in circulation 
at a parity without the co-operation of other nations, 
France and some of the other states of Southern Europe 
established in 1865 the so-called Latin Union, which had 
this for one of its principal objects. From 1803 to 1873, 
France and the Latin Union succeeded in keeping both 
gold and silver in circulation at their established mint ratio 
of 1 to 15!/2. During the entire period the market ratio 
between the two metals varied but slightly from this mint 
ratio.* In 1873 several circumstances united to compel 
France to abandon the policy which she had so long up- 
held. Chief among these was the increased production of 
silver, due to silver discoveries in America, which low- 
ered the value of that metal and caused its substitution on 
a large scale for the country's dearer gold coin. Seeing 
their gold disappearing from circulation and fearing that 
they would be brought to the cheaper standard, the coun- 
tries of the Latin Union decided in 1874 to limit the coin- 
age of silver, and in 1878 to close their mints altogether 
to the free coinage of that metal. By this action they 
maintained their dearer standard, which was thenceforth 
gold. About the same time (1871-73), Germany adopted 
the single gold standard by limiting the coinage of silver 
so that the silver money in circulation should never exceed 
ten marks per capita. Holland, Norway, Sweden and 
Denmark were not slow to follow the example of their 
southern neighbors. More tardily Austria-Hungary 
(1892-1902) and Russia (1896), which for several years 
had had depreciated paper currencies as their chief media 
of exchange, accumulated sufficient gold to establish se- 

* The extreme variations were from a ratio of 1 to 16 *4 in 1813 to 
a ratio of 1 to 15.19 in 1859. Cf. Shaw, The History of Currency, 
1252 to 1894, p. 159. 



234 THE MONETARY SYSTEM 

curely the gold standard. Thus at the end of the nine- 
teenth century all of the important nations of Europe 
except Spain had the gold standard in actual operation. 

Outside of Europe a similar development was in progress 
during the same period. The British dependencies, Can- 
ada, Cape Colony and the States of Australasia, have long 
been on the gold basis. India suspended the free coinage 
of silver in 1893, and by 1899 had accumulated enough 
gold in London to maintain the silver coifci, which continued 
to be the principal medium of exchange of the country, 
at a fixed parity with the gold coinage of England 
(15 rupees = £1). Gold thus became the country's real 
standard of value. Japan adopted the single gold stand- 
ard in 1898. At the close of the nineteenth century only 
China and Mexico, among the important nations of the 
world, remained on the silver basis, and at the time of 
writing (1908) even these countries are taking measures 
to establish a fixed parity between their silver currencies 
and gold in some such manner as did India in 1899. Gold 
has thus become the standard of value of practically the 
entire commercial world. 

124. Monetary History of the United States. — As 
already explained, the first coinage law of the United 
States gave the country a mint ratio so unfavorable to 
gold that silver became in time its actual standard of value 
and medium of exchange. It was not until 1834 that 
Congress attempted to change this situation. In order 
to bring gold back into circulation, acts were passed in 
that year and in 1837 establishing the present mint ratio 
between gold and silver, which is 1 to 15.988.* The 
standard silver dollar was to contain 371.25 grains of 
pure silver as under the act of 1792, and the standard gold 
dollar 23.22 grains of pure gold. Both were to be nine- 
tenths fine. This new ratio undervalued silver nearly, if 

* The " 16 to 1 " so often referred to in the presidential campaign 
of 1896. 



MONETARY HISTORY 235 

not quite, as much as the former had overvalued it, since 
the commercial ratio between gold and silver continued to 
be about 1 to 15%. In obedience to Gresham's Law, sil- 
ver now disappeared from circulation and gold became the 
real standard of value of the country. This situation 
continued down to the time of the Civil War. During 
that struggle United States notes, or " greenbacks," were 
issued in excessive quantity, with the result that gold also 
disappeared from circulation and the country was brought 
to a paper standard. Thus when the war closed, and for 
some years thereafter, neither gold nor silver, except the 
subsidiary coin used for small change, was in circulation. 
In 1873, after considering the subject during successive 
sessions, Congress passed a law omitting the standard sil- 
ver dollar from the list of authorized coins. At the time 
this action attracted little attention, but a few years later, 
when the question of resuming specie payments was under 
consideration and silver producers were suffering from 
the decline in the gold price of their product, there arose 
a violent agitation for the remonetization of silver. In 
1878 Congress passed what is known as the " Bland- 
Allison Act," which reintroduced the silver dollar and re- 
quired the Secretary of the Treasury to purchase monthly 
from $2,000,000 to $4,000,000 worth of silver bullion and 
coin it into standard dollars. The gold price of silver 
continued to fall, and this led in 1890 to the enactment of 
a second law, known as the " Sherman Act," which re- 
quired the Secretary of the Treasury to purchase monthly 
4,500,000 ounces of fine silver so long as the market ratio 
between silver and gold should be less favorable to silver 
than the mint ratio, and to pay for it by the issue of so- 
called Treasury notes redeemable in coin and possessing 
full legal-tender power. 

As a result of the Bland- Allison and Sherman Acts the 
government accumulated a vast hoard of silver out of 
which as many as 568,260,982 standard silver dollars 



236 THE MONETARY SYSTEM 

will eventually be coined. Of these, less than 80,000,000 
have ever been in circulation because of the awkwardness 
of the silver dollar as a medium of exchange. The re- 
maining dollars have been represented by silver certificates, 
redeemable in silver dollars on demand, and Treasury 
notes. The consequence of this large increase in the silver 
currency of the country was to cause gold to be withdrawn 
from circulation. This tendency became so marked after 
the passage of the Sherman Act that serious fears were 
entertained lest the gold standard, which had been re- 
established January 1, 1879, should be displaced by a 
cheaper standard. In March, 1893, a special session of 
Congress was called by President Cleveland for the sole 
purpose of repealing the purchase clause of the Sherman 
Act, which was finally done in October of that year. After 
much further agitation, the logical sequence to this policy 
followed on March 14, 1900, when Congress passed a law 
definitely affirming that gold is the standard of value of 
the country. 

125. Present Monetary System of the United States. 
— On October 1, 1908, there were in general circulation in 
the United States eight different kinds of money. The 
amounts of each kind in circulation and in the Treasury, 
as shown by the statement of the Secretary of the Treas- 
ury for that date, were in round figures as follows : Gold 
coin and bars, $1,644,000,000; (gold certificates, $842,- 
000,000);* standard silver dollars, $563,000,000; (silver 
certificates, $488,000,000);* subsidiary coin, $146,000,- 
000; Treasury notes, $5,000,000; United States notes, 
$347,000,000; national bank notes, $675,000,000. The 
total money supply of the country was, therefore, 
$3,380,000,000, of which $302,000,000 was held in 
the United States Treasury as assets of the Government. 

* The gold and silver certificates are placed in parentheses be- 
cause they stand for golpl and silver included in the first and third 
items. 



MAINTENANCE OF THE GOLD STANDARD 237 

This represented an estimated circulation per capita of 
$35.04. 

As already stated, it is the monetary policy of the 
United States to maintain an exact parity between the 
value of its gold coin and the value of the gold in such 
coin and between the value of gold money and the seven 
other varieties of money enumerated. The parity in value 
between standard gold coins and the gold of which they 
are made is maintained automatically by the free convert- 
ibility of one into the other. Thus, if there is any tend- 
ency for the dollar to become worth more than 23.22 
grains of pure gold, the new gold that is constantly com- 
ing on the market and the old gold that is constantly 
being given new forms will, under our free and gratuitous 
gold coinage system, be coined into dollars until the tend- 
ency has been checked. On the other hand, if there is 
any tendency for 23.22 grains of gold to be worth more 
than a dollar as bullion, gold coins will be thrown into the 
melting pot or exported until this tendency is checked 
and the parity in value is restored. By these simple means 
the gold standard is maintained so far as the relation 
between gold coin and gold bullion is concerned. 

126. How the Parity in Value between Gold Coins and 
the other Kinds of Money is Maintained. — The mainte- 
nance of the parity in value between gold coin and the 
other varieties of money is a more complicated matter. 
Gold certificates are kept at par by the fact that they are 
redeemable at the pleasure of the holder in the gold coin 
in exchange for which they are issued, and which is held 
in the Treasury as a trust fund. Standard silver dollars, 
which, like gold coin, possess full legal-tender power, and 
the silver certificates based on them, are kept at a parity 
with gold because they, too, are freely exchangeable at the 
United States Treasury for gold or any other form of 
money that is desired. There is no law expressly requir- 
ing their redemption in gold, but laws have over and over 



238 THE MONETARY SYSTEM 

again affirmed it to be the settled policy of the United 
States to maintain a parity between its gold and silver 
coins, and prompt redemption of one in the other has long 
been recognized as the only sure way of maintaining such 
parity. The ability of the Secretary of the Treasury 
to pay out gold in exchange for silver depends, of course, 
upon the limitation of the amount of the latter that is 
put into circulation. As the law now stands, no more new 
silver dollars may be coined than will suffice to redeem the 
$5,000,000 in Treasury notes still outstanding, and there 
is little doubt that the quantity thus authorized, circulat- 
ing for the most part as silver certificates, will be con- 
tinuously needed for the country's retail trade. So long 
as this limitation is adhered to, the redemption of silver 
dollars and silver certificates is not likely to cause the 
Government any embarrassment. Minor coins are kept 
at a parity with gold because they also are redeemable in 
standard coin, and because there is a constant demand 
for the limited quantity of such coins issued. 

The United States notes and the Treasury notes of 
1890, although so different in their origin, are now on the 
same footing so far as their monetary use is concerned. 
Both are a legal tender and both are now redeemable in 
gold. The United States notes, or greenbacks, which were 
issued in excess during the Civil War, were restored to a 
parity with gold by the resumption of specie payments, 
January 1, 1879. The amount of this currency, which 
was at one time nearly $450,000,000, had been reduced to 
$346,681,016 by May 31, 1878, when an act, which is 
still in force, requiring this quantity to be kept in circu- 
lation, became effective. 

After 1890, when the excessive issue of silver currency 
threatened to deplete the country of its gold, the United 
States notes were the convenient means used by bankers to 
secure that metal from the Treasury. As, at the same 
period, the Government's revenues were insufficient to meet 



DEFECTS IN MONETARY SYSTEM 239 

its current requirements, the Secretary of the Treasury 
was compelled to pay out the notes almost as fast as they 
were redeemed, and this permitted their repeated use for 
the same purpose. The act of March 14, 1900, was de- 
signed to prevent the recurrence of a similar situation. 
It provides for a special gold reserve of $150,000,000 to 
be set aside by the Secretary of the Treasury for the ex- 
clusive purpose of redeeming on demand United States 
notes and Treasury notes. The redeemed notes are to 
be used only to maintain the gold reserve either through 
exchange for free gold already in the Treasury or through 
the purchase of gold bullion " at such rates and upon such 
terms as may be deemed most advantageous to the public 
interest." The law provides further that when the gold re- 
serve falls below $100,000,000 the Secretary of the Treas- 
ury shall restore it to $150,000,000 by borrowing money 
at 3 per cent or less on the credit of the United States. 
The redemption of these two forms of money in gold is 
thus assured so long as the credit of the United States is 
not itself impaired. 

The national bank notes, the last variety of money to 
be considered, are kept at a parity with gold by being 
made redeemable in legal money either at the Treasury 
or over the counter of the issuing bank. 

As a result of these various expedients, all of which 
reduce to the ready convertibility of the token or credit 
money concerned into gold coin, all kinds of money in 
circulation in the United States are kept at a parity, and 
the gold standard is maintained. So long as the issue of 
token and credit money is restricted within its present 
limits there seems little ground for anxiety in regard to 
the stability of the standard. 

127. Defects in the Monetary System of the United 
States: Token Money. — The monetary system of the 
United States, notwithstanding the legislative tinkering 
to which it has been so frequently subjected since the 



240 THE MONETARY SYSTEM 

Civil War, remains defective in three important respects. 
First, there has been an excessive coinage of silver dollars 
and the position of the silver certificates, issued in place 
of them, as credit money redeemable in gold is not defined 
with sufficient precision in the law. Second, the condi- 
tions under which national bank notes are issued fail to 
provide the country with a satisfactory bank note cur- 
rency. Third, the gold standard itself falls short of the 
requirements of an ideal monetary system. We will con- 
sider immediately possible remedies for the first of these 
defects. The others are more complicated and constitute 
the principal themes of the next two chapters. 

Of the eight kinds of money of the United States, gold 
coins alone are standard money. Minor coins and silver 
dollars are token money. The five varieties of paper dol- 
lars are credit money. The function of standard money 
in a monetary system has already been indicated. Token 
money performs a supplementary function that is readily 
understood. Owing to their small size in proportion to 
their value gold coins are not suitable for small change. 
Even gold dollars were found unsatisfactory in the United 
States and their coinage was suspended in 1890, since 
which time the quarter eagle ($2.50) has been the smallest 
gold coin in circulation. It is the function of token money 
to supply convenient coins of the small denominations 
needed in retail trade. The experience of each country 
must determine what token coins best suit the convenience 
of its business public, but there are certain principles that 
may be laid down which are of general application: 
( 1 ) The issue of token money should be limited to the actual 
requirements of retail trade, and to insure this result and 
the maintenance of the parity between token and standard 
money, the law should provide for the ready convertibility 
of one into the other. (2) Since the value of token money 
depends upon the demand for it and upon its ready con- 
vertibility, the value of the bullion contents of such money 



THE SURPLUS SILVER DOLLARS 241 

is of slight importance in comparison with its being readily 
cognizable and convenient in size and weight. In fact, 
the only good reason for having the face value of token 
coins bear a certain relation to the value of the bullion 
they contain, plus the expense of their manufacture, is 
that this is the easiest way to prevent counterfeiting. 
(3) On the other hand, the margin between the bullion and 
coin value of token coins should be wide enough to allow 
for considerable variations in the former. Only in this 
way is it possible to avoid the danger that the bullion 
value of such coins shall come to exceed their coin 
value, with the result that they will be withdrawn from 
circulation. 

As regards its minor coins the United States has con- 
formed to these three principles and no serious fault is 
to be found with its system. In its coinage of silver dol- 
lars, however, it has paid no heed to the first and most 
important of them and consequently the country has a 
stock of these coins far in excess of its needs. At a liberal 
estimate there is no likelihood that more than 100,000,000 
silver dollars will be required for use in the country's re- 
tail trade for many years to come. In fact there is good 
reason to anticipate that as time goes on fewer rather 
than more of these awkward coins will be called for, since 
the preference for paper notes which the Eastern States 
have long shown is spreading to the West and South. 
Putting the present and prospective need for silver dollars 
at 100,000,000 there remain, in round figures, some 
470,000,000 silver dollars which serve no useful purpose. 
These are stored in the vaults of the Treasury at Wash- 
ington and constitute a dead asset of the Government. 
Nominally they are the security back of the silver cer- 
tificates which circulate in their stead but really they con- 
tribute nothing to the acceptability of these certificates. 
It is confidence that the Government will redeem them in 
gold and the need there is for small bills to carry on the 



242 THE MONETARY SYSTEM 

country's trade, not the prospect of getting in exchange 
for them silver dollars which no one wants, that main- 
tain these certificates at par with other kinds of money. 
What to do with these surplus silver dollars is a prob- 
lem that confronts every successive Secretary of the 
Treasury. 

128. Plans for Disposing of the Surplus Silver Dollars : 
Credit Money. — Two plans have been suggested for dis- 
posing of the 470,000,000 odd surplus silver dollars. The 
simplest is to withdraw and cancel the silver certificates 
that find their way into the Treasury at the rate of a few 
millions a month and convert an equal volume of silver 
dollars into bullion to be disposed of at the discretion of 
the Secretary of the Treasury. The sale of this silver 
bullion would have to be spread out over a considerable 
period in order not to depress unduly the silver market, 
but there is no reason to think that the plan could not be 
carried out successfully if the necessary powers were en- 
trusted to the proper officials. The chief objection to it is 
the large loss in the nominal assets of the Government 
which it would entail, since not more than forty cents 
could be recovered from the sale of the silver for every 
dollar in silver certificates destroyed. 

The second plan proposes to avoid this loss by substi- 
tuting for the canceled silver certificates United States 
notes and at the same time adding the proceeds derived 
from the sale of silver bullion to the legal gold reserve. 
If the sale of the 470,000,000 silver dollars as bullion 
brought in $180,000,000 in gold this would increase the 
gold reserve to $330,000,000, at the same time that the 
credit money secured by this reserve was increased to some 
$817,000,000. The new reserve would thus be consider- 
ably in excess of one-third of the new liability, and as the 
greater part of this liability would be in the form of small 
bills continuously needed in connection with the retail 
trade of the country, there seems every reason to believe 



THE SURPLUS SILVER DOLLARS 243 

that it would be as adequate as is the present reserve 
against the present liability. 

Objectors to this plan are chiefly those who distrust 
every form of credit money except gold certificates pro- 
tected by a dollar for dollar gold reserve. But such ex- 
treme distrust rests rather upon sentiment than upon rea- 
son. Credit money has as legitimate a place in a monetary 
system as has token money, but its issue must be regu- 
lated with greater caution since its use is not confined to 
small change transactions and there is no simple way of 
telling when a country has all that it can safely use. Its 
function is, of course, to economize the use of standard 
money by serving as a convenient substitute for it. The 
business community in the United States has a decided 
preference for paper notes over coin. It prefers gold cer- 
tificates to the actual gold, and it will accept United States 
notes as readily as gold certificates provided it is assured 
that they will be redeemed in gold on demand. Under 
these circumstances there seems to be no good reason 
why the Government should not continue United States 
notes in circulation in moderate amount, provided it main- 
tains an adequate gold reserve to insure their redemption 
and machinery for increasing this reserve promptly should 
some extraordinary emergency render this necessary. The 
system was subjected to a severe test in the autumn of 
1907 when there was an almost complete collapse of com- 
mercial and bank credit. That there was no unusual de- 
mand on the Government's gold reserve at that time is 
conclusive proof that the issue of credit money in the vol- 
ume now outstanding has not weakened the soundness of 
the country's monetary system. In the opinion of the 
author, increasing the issue of credit money by substi- 
tuting United States notes for silver certificates, as pro- 
posed above, while at the same time increasing the gold 
reserve by adding to it the proceeds derived from the 
sale of the surplus silver dollars, would really tend to 



244 THE MONETARY SYSTEM 

strengthen the monetary system by making it simpler and 
more rational. It is the remedy for this defect which 
seems to meet most fully the different requirements of the 
situation. 

REFERENCES FOR COLLATERAL READING 

* Johnson, Money and Currency ; * White Money and Banking ; 
Scott, Money and Banking (good bibliography) ; Kinley, Money and 
Credit; Laughlin, The Principles of Money. More condensed discus- 
sions will be found in: * Hadley, Economics, Chap. VII., and * Pier- 
son, Principles of Economics, Part II. Treating more especially of 
the monetary history of the United States are: Laughlin, The His- 
tory of Bimetallism in the United States; * Dewey, The Financial 
History of the United States; Dunbar, Laws of the United States 
Relating to Currency, Finance and Banking, 1789 to 1891; Report 
of the Indianapolis Monetary Commission (1898), and Noyes, Thirty 
Years of American Finance. 



CHAPTER XV 
CREDIT AND BANKING 

129. The Nature of Credit. — Credit, or a promise to 
pay at a future time for a valuable consideration received 
in the present, is probably as old as the practice of ex- 
change. The only condition essential to its use is con- 
fidence on the part of the creditor that the promised 
payment will be made when due, and this must have been 
among the earliest fruits of social intercourse. With 
every increase in the mutual confidence which binds together 
the members of business communities a larger field has been 
opened to credit, until at the present time there is hardly a 
business man who does not figure daily either as a creditor 
or a debtor in some credit transaction. 

With the introduction of money as the medium of ex- 
change, the custom arose of using the monetary unit as the 
medium of credit, or of deferred payments. This is now 
so universal that little or no exaggeration is involved in 
defining credit as " a promise to pay money." The written 
forms in which promises to pay money are drawn up are 
conveniently designated as " credit instruments " or 
" credit paper." 

Like most of the terms of economics, " credit " is used in 
other senses than that chosen for definition. Business men 
talk habitually of " having credit " and of " giving credit." 
To have credit is to enjoy a reputation for integrity which 
inspires confidence or to possess property that may be 
pledged. To give credit, on the other hand, is to accept 
another's promise to pay in exchange for a valuable con- 
sideration. It is obvious that business men will " give 

245 



246 CREDIT AND BANKING 

credit " only to those who " have " it and that both are 
necessary to the existence of negotiable credit instruments. 

130. Book Credit. — Of all forms of credit the simplest 
is verbal or book credit, resorted to whenever a purchaser 
has things " charged." This practice has many advan- 
tages. In agricultural communities in which incomes are 
received only at long intervals when the crops are ready 
for sale, book credit at the country store enables the farmer 
to secure supplies for himself and his family during the 
periods between harvests. In a similar way, in factory 
towns and cities where wages are paid by the month, book 
credit is indispensable to the maintenance of many work- 
ingmen's families during the interval between pay days. 
More important, because more clearly beneficial, is the use 
of book credit in connection with large retail! stores where 
it obviates the necessity for small payments. The extent 
to which book credit serves as a medium of exchange in 
the United States can only be guessed at, but it is believed 
that it figures in connection with fully one-half of the 
wholesale and retail transactions that take place. 

In agricultural districts it is not unusual for the mer- 
chants who sell on credit to be themselves purchasers of 
their customers' products. Where this is the case debts 
contracted during the year may be canceled by credits 
secured when the crops are sold and book credit may serve 
as the sole medium of exchange. More commonly the use 
of book credit simply defers payment until settlement day, 
when some other medium of exchange is called in to balance 
the account. Generally this other medium is some form of 
credit created by a bank, such as a check or a draft. 

131. The Banking Business. — A bank is an institution 
which deals in money and credit. It receives deposits ; pays 
them out again on the written order, or " check," of the 
depositor ; sells " drafts " or orders for money on its cor- 
respondents in other places ; lends at interest money, deposit 
credits or its own " bank notes " ; " discounts " notes and 



THE BANKING BUSINESS 247 

bills of exchange ; sells " foreign exchange " or drafts on 
its correspondents abroad, and sometimes provides safety- 
deposit boxes for the storage of valuable papers. In addi- 
tion to commercial banks, like the national banks in the 
United States, to which the above description applies, there 
are other banking institutions which perforin only a limited 
number of these functions and combine with them others 
that do not fall strictly within the field of banking. Such 
are savings banks and trust companies. 

Historically, lending is an older banking function than 
borrowing. Thus the Bank of England was incorporated 
in 1693 primarily for the purpose of lending to the Gov- 
ernment £2,000,000 at 8 per cent interest. The capital 
necessary to carry through this operation was subscribed 
by merchants of London, who soon fell into the habit of en- 
trusting their surplus funds to the bank and of borrowing 
from it themselves when occasion required. As the deposits 
of a commercial bank must be repaid on demand, the prac- 
tice of lending the deposits as well as the capital of a bank 
was at first looked upon as a dangerous innovation. Ex- 
perience has shown, however, that although all depositors 
have the right to withdraw their deposits on any given 
day, in practice only a small portion of them will do so. 
By lending money for short periods and arranging loans 
so that a certain proportion of them become due each day, 
a modern bank is able to lend at interest from two-thirds 
to three-fourths of its deposits without running any serious 
risk of becoming bankrupt. Of course, to continue this 
policy, it is necessary for a bank to command the confidence 
of its depositors. If they are suspicious or timid, some 
slight circumstance may start a " run on the bank," which 
may prove fatal, since no bank can do a profitable business 
and at the same time be in a position to repay at any time 
all of its depositors. Banking thus depends for its success 
more than any other business upon the confidence which 
customers have in those directing the enterprise. It is this 



248 CREDIT AND BANKING 

confidence that attracts deposits. The same confidence 
holds them after they have been made and enables the bank 
to turn them to profitable account. The confidence of 
other banks, finally, may preserve a bank subjected to a 
run from becoming insolvent. For these reasons bankers 
should be men of tried business experience, whose integrity 
is above suspicion. 

132. The Check System. — One reason why a bank may 
count with confidence on retaining control over the major 
portion of its deposits from day to day, is because the 
check is such a convenient means of payment that it tends 
to become the principal medium of exchange in communi- 
ties in which banking is developed. If all of the inhabitants 
of a town had deposits in the same bank, it will readily 
be perceived that payments among them might be made 
exclusively by means of checks and that such payments 
need involve the actual withdrawal of no money from the 
bank. The butcher, the grocer, the dry-goods merchant, 
the lawyer, the physician, etc., might exchange checks at 
the end of each week or month, and these transfers could 
be noted on the books of the bank. No money would be 
required, because under the assumed conditions checks 
would accomplish all of the exchange work to be done. 
Only when payments were made to persons who were not de- 
positors in the bank would the bank's deposits be encroached 
upon. No community has yet developed to a point where 
checks are used for all of its transactions. In fact, for 
small payments, the convenience of using checks is more 
than counterbalanced by the expense connected with trans- 
ferring small amounts from one account to another. More- 
over, as a community grows, competing banks are likely 
to start up, and this gives rise to checks drawn on different 
banks and prevents that easy transfer of accounts possible 
when one bank monopolizes the business. To reduce to a 
minimum the transfers of money necessitated by the exist- 
ence of different banks in the same locality, the banks 



\ 

THE CHECK SYSTEM 249 

themselves have devised what is known as the " clearing 
house." Where no clearing house exists, each bank which 
receives checks drawn on other banks is under the necessity 
of sending such checks by special messenger to the banks 
against which they are drawn and demanding payment 
for them. A clearing house is an institution where such 
messengers from different banks may come together daily 
and exchange checks, receiving in payment only the bal- 
ance due to each bank from all of the others belonging to 
the clearing house. By this means checks aggregating 
millions of dollars may be exchanged through the transfer 
of only 5 or 6 per cent of the amount in money. Even this 
transfer involves no actual reduction in the amount of 
money on deposit, since some banks gain what others lose. 
Thus, with a well-organized clearing house, the affiliated 
banks in a city in which checks are the preferred means of 
payment may count with certainty on retaining control 
over the greater part of their deposits, so long as they con- 
tinue to command the confidence of their depositors. 

In the United States the use of checks for paying debts 
in distant cities is becoming almost as general as for pay- 
ing debts at home. To facilitate this process each bank 
has its correspondent in each of the large cities of the 
country, to which it sends checks drawn on banks in those 
cities which it has received on deposit or cashed for its cus- 
tomers. These checks are sent to the clearing house like 
any others by the bank receiving them, and, if good, are 
credited to the account of the bank making the remittance. 
The process is made still simpler by the use of drafts drawn 
by the customer's bank against its correspondent in the city 
to which remittance is made and given in exchange for 
checks against the customer's deposit. The obvious ad- 
vantage of drafts for distant payments is that they do not 
need to be returned to the place where they originate before 
they are paid and canceled. 

The use of checks, drafts and post-office, express and 



/ 

250 CREDIT AND BANKING 

telegraph money orders as media of exchange confines the 
use of money in progressive communities within very nar- 
row limits. Well-to-do people in cities in the United 
States already use money only for small-change trans- 
actions and for traveling expenses. As the country be- 
comes more densely inhabited and credit institutions are 
perfected, it hardly admits of question that this custom 
will become more general and that credit will serve as the 
medium for an ever larger proportion of exchange trans- 
actions. This does not mean that the monetary unit will 
lose its importance as the standard of value, since all credit 
instruments are expressed in terms of money. In fact, 
since credit is based on confidence, the wider the extension 
of credit, the more vitally important will the soundness and 
stability of the monetary system become. 

133. Bank Deposits and Bank Loans. — Lending, which 
was the first, is still, from the point of view of the banker, 
the most important function of a bank. He is willing to 
accept deposits and to maintain the clerical force neces- 
sary to the efficient operation of the check system, because 
in this way he adds to his loanable resources. It is through 
lending the latter at interest that he derives the greater 
part of his profit. Lending deposits is so remunerative 
that banks, especially in cities, are active competitors for 
depositors. The inducements they offer range from ready 
accommodation with loans, which appeals especially to 
active entrepreneurs, to the payment of a small rate of 
interest even on call deposits. Some city banks even go so 
far as to send their own messengers to collect deposits 
and to cash checks for their customers, so that the latter 
are spared the trouble of visiting the bank. One reason 
for this active competition is the belief that deposits them- 
selves attract and hold deposits. Confidence is infectious, 
and when a business man observes that others are entrusting 
millions of dollars to a particular bank he is the more ready 
to entrust to it his own surplus funds. 



BANK DEPOSITS AND LOANS 251 

A bank's loans may assume a variety of forms depend- 
ing upon the kind of security accepted and the conditions 
as to interest. The simplest sort of a loan is on the per- 
sonal note of the borrower, secured only by his individual 
name. Such notes are known as " single-name paper " and 
are entirely acceptable to bankers when the credit of the 
giver of the note is above question. A more common kind 
of loan is on the personal note of the borrower endorsed 
by some friend or business associate, who, by writing his 
name on the note, makes himself also liable for the payment 
of the obligation. " Two-name paper " is, for obvious rea- 
sons, more acceptable than single-name notes. Endorse- 
ments on notes may be multiplied indefinitely, and each new 
name may add something to the value of the security. 

Even more acceptable to bankers than personal notes are 
notes secured by a pledge of stocks or bonds, called in this 
connection " collateral." If such notes are not paid when 
they fall due the banker is at liberty to sell the securities 
pledged and reimburse himself for principal and interest 
from the proceeds. To lend intelligently on collateral 
security the banker must be well informed as to the value 
of stocks and bonds, and it is for this reason that he is com- 
pelled to follow closely the variations of the stock market. 
In addition to lending on paper created for the purpose of 
the loan, banks lend by discounting notes and bills of 
exchange created in connection with ordinary mercantile 
transactions. A bill of exchange is an order drawn by one 
person directing another to pay a certain sum of money 
on a certain date to a third person named in the bill. Such 
bills, or drafts (a name also applied to them), are the 
constant recourse of merchants who sell on credit. When 
drawn by a merchant who enjoys the confidence of his 
bank they are readily discounted by the latter, that is, pur- 
chased at their face value less interest on the principal at 
the current rate to the time when they fall due. In such 
a transaction a bank virtually lends its customer the face 



252 CREDIT AND BANKING 

value of the note less the discount, which is in this case 
the interest, relying upon him to reimburse it if the person 
against whom the bill is drawn fails to pay. To avoid 
misunderstanding, banks which discount bills of exchange 
usually lose no time in having them brought to the attention 
of the persons against whom they are drawn for their " ac- 
ceptance." An accepted bill resembles an endorsed note 
in that two persons are legally responsible for its payment. 

Besides differing in their form, bank loans differ as to 
the conditions of payment. In this connection " call " or 
demand loans, short-time loans and long-time loans must 
be distinguished. Call loans are payable at any time at the 
will of either lender or borrower. They are based usually 
on collateral security, and the borrower who fails to re- 
spond promptly to a bank's request for payment runs the 
risk of being " sold out," that is, of having the security 
sold to reimburse the bank. As such forced sales are not 
likely to be advantageous, borrowers on call have every in- 
ducement to meet their obligations promptly. Short-time 
loans are loans which " mature," or fall due, within thirty, 
sixty or ninety days. Next to call loans, these are pre- 
ferred by a commercial bank, which likes to have its re- 
sources as completely under control at any given time as pos- 
sible. Long-time loans are loans that run for six months or 
more and are made more frequently by savings banks, trust 
companies and private bankers whose obligations to de- 
positors do not usually call for repayment on demand. The 
prudent banker makes the combination of these various 
kinds of loans that will secure for his bank the largest 
average rate of return without so tying up its funds that 
they cannot be quickly converted into cash to meet an 
emergency. 

134. How Banks Lend their Credit. — From what has 
been said thus far, it might be inferred that a bank's credit 
figures only on the deposit side of its business. It is credit 
that attracts depositors, and the bank's own capital and the 



HOW BANKS LEND THEIR CREDIT 253 

deposits entrusted to it appear to the uninitiated to be the 
resources which limit its lending capacity. As a matter of 
fact, modern banks take advantage of the business com- 
munity's preference for checks as a means of payment to 
lend deposit credits as well as money. The present-day 
borrower from a city bank desires, in nine cases out of ten, 
not money, but a deposit credit on the books of the bank 
against which he may draw checks at his convenience. 
Even if he wishes to pay at once to another the whole 
amount borrowed, he will usually prefer to draw a check 
for it rather than to pay it in money. From this it follows 
that the deposit liabilities of a modern city bank represent 
quite as largely sums loaned by it to business men as sums 
entrusted to it by such men. A bank lends its credit quite 
as freely as it utilizes that credit in inducing others to 
lend to it. 

The same considerations which cause bona fide deposits 
to be left under the control of the bank, so long as it re- 
tains the confidence of its customers, causes loaned deposits 
to be left with it also. The man who borrows from a bank 
wants ordinarily purchasing power to use in some business 
transaction. This purchasing power may pass to some- 
one else, but under present conditions the new owner is al- 
most certain to entrust it, at least temporarily, to a bank 
for safe-keeping. Presently his business dealings may 
cause him to transfer it, or a part of it, to a third person, 
but again the chances are all in favor of its being left on 
deposit with a bank rather than being withdrawn as money. 
Before the purchasing power loaned by the bank has left 
its control, or the control of affiliated banks, it is more than 
likely, in the ordinary course of business, that the loan 
will mature and equivalent purchasing power will be re- 
turned to the bank. In this fashion a bank is able to re- 
ceive interest for assuming demand liabilities which it may 
not, as a matter of fact, ever be called upon to discharge. 
It must always be ready to discharge them on pain of bank- 



254 CREDIT AND BANKING 

ruptcy, but it may count with confidence on being called 
upon to discharge only a portion of them from day to day. 
This ability of a bank to make a profit by lending that 
intangible thing called credit is what makes successful 
banking so profitable and at the same time exposes bankers 
to such serious temptations. Banking experience in a given 
locality may suggest that a cash reserve of at least 30 per 
cent of the deposit liabilities ought to be held in readiness to 
satisfy at any time a bank's depositors. If this amount is 
held, a loan business, in the form of deposit liabilities, of 
$1,000,000 may be maintained by means of a reserve of 
$300,000. The same $300,000 would maintain a loan busi- 
ness of $1,200,000 if 25 per cent were an adequate reserve. 
The interest on the additional $200,000 is the temptation 
which is constantly presented to the banker to depart from 
the lessons of banking experience and maintain a somewhat 
smaller reserve than is entirely safe. A reserve of 25 per 
cent, 20 per cent or even 10 per cent, might be adequate 
under ordinary business conditions. But the reserve must 
be sufficient to meet not only ordinary demands, but any 
demands that are likely to arise. It is because bankers are 
apt in times of business prosperity to forget the lessons 
of the past that the banking business has appeared a fit 
object for state supervision and regulation. 

Besides lending their credit in the form of deposit liabili- 
ties, banks which enjoy the privilege of issuing bank notes, 
that is, the bank's promises to pay on demand without in- 
terest the sums named on the face of the notes, may lend 
their credit in this form. When the credit of a bank is 
securely established, its promises to pay may be considered 
" as good as gold." Under such circumstances borrowers 
from the bank will be as willing to accept bank notes as 
legal money in case they wish some other means of payment 
than their own checks. In cities, where checks can be 
presented to the bank against which they are drawn within 
a few hours and their value established, most business men 



INTEREST ON BANK LOANS 255 

prefer them to bank notes. In country districts, however, 
checks are not acceptable because of the risk involved in 
trusting the drawer of a check until it can be presented 
at the bank against which it is drawn. If confidence is felt 
in the bank, no such objection will be raised to bank notes, 
since they carry on their face the liability of the bank. It 
follows that country banks enjoying the privilege may loan 
their credit through the issue of bank notes, when otherwise 
loans would have to be made in cash and credit could enter 
into their business only as a means of attracting depositors. 

135. Interest on Bank Loans. — In a previous chapter 
interest was described as the share of wealth assigned to 
capitalists for the use of their capital, or as the earnings 
of capital. Interest on bank loans does not at first thought 
appear to fall under this definition. Are the money and 
credit which banks lend capital? If not, what service 
do these render to induce borrowers to pay interest for 
their use? Satisfactory answers must be given to these 
questions to justify our definition of interest. 

Those who borrow from banks wish, usually, purchas- 
ing power to enable them to obtain — or, at times, to retain 
— control over a share of the community's capital. What 
they really borrow is not the money or the deposit credit 
which the bank transfers to them, but the concrete forms of 
capital, economic goods of various kinds, or stocks and 
bonds which represent part ownership in aggregates of 
economic goods, which they purchase with this money or 
deposit credit. The purchasing power which the bank sup- 
plies is simply the convenient medium by means of which 
control over capital is secured, and interest is paid for its 
use, ordinarily, simply because the capital which it repre- 
sents earns interest. It is a derived form of interest ac- 
counted for by the interchangeability of purchasing power 
and capital goods. 

For a community which uses as its medium of exchange 
only self-regulating standard money, for example, gold 



256 CREDIT AND BANKING 

coin, the answers to the questions propounded above may 
be given without hesitation. Such gold coin is itself capi- 
tal, that is, the product of past industry used as an aid 
(as the " tool of exchange ") to further production. Only 
so much wealth will be thrown into this form as can earn 
the same rate of return that is obtained by other kinds of 
capital goods, and this return will be secured because, as 
the universal medium of exchange, money represents all 
other goods. It is the transition form into which capital 
is thrown as it passes from the control of those who do not 
want it as embodied in particular capital goods, to those 
who do want it as so embodied, and confers upon its pos- 
sessor command over whatever combination of capital goods 
he may require. His willingness to pay interest for its use 
follows necessarily from this command over interest-earning 
capital goods which it bestows. 

But no community uses standard money only as its 
medium of exchange. The credit of the government is 
called in to give currency to token and credit money. 
Where banking is developed, bank credit also serves on a 
vast scale as a medium of exchange. Can this credit which 
so largely takes the place of standard money in modern 
business communities be properly included under the defini- 
tion of capital? If not, what service does it render which 
entitles those who furnish it to interest for its use? It 
must be clearly asserted at the outset that credit is not 
capital. It may enable the person who enjoys it to secure 
capital. It may even, to the extent that it serves equally 
well as the medium of exchange, take the place of capital 
in the form of standard money. But it is not itself capital. 
Nevertheless, interest is paid for its use for exactly the same 
reasons that it is paid for the use of standard money. 
What the business man wants when he borrows from a bank 
is purchasing power. If the bank can supply this in the 
form of a deposit credit, against which he may confidently 
check at will, or in the form of bank notes, he is as well, if 



BANK RATES OF INTEREST 257 

not better, pleased than if it supplies it in the form of 
standard money. What he really wishes is the goods to be 
bought with the purchasing power loaned him. It is for 
these that he is willing to pay interest. It is even these that 
are really loaned to him, since the bank transfers to him a 
part of its own control over the collective wealth of the 
community. The purchasing power which figures in the 
transaction soon passes on to someone else and continues to 
circulate in the community, changing hands perhaps hun- 
dreds of times before the loan falls due and equivalent 
purchasing power must be returned to the bank by the 
borrower. A demand for bank loans is thus at bottom not 
a demand for money or for credit, but a demand for a 
part of the community's capital. Money or other purchas- 
ing power is transiently needed to put the borrower in 
control of the capital he wishes, but its task is quickly done, 
while the capital remains in the borrower's possession. His 
demand for it is due, not to his position as a borrower, 
but to his position as a prospective buyer, and the aggre- 
gate demand for money is no greater in a community in 
which all purchases are made with borrowed money than 
it is in a community where the same volume of purchases 
is made with money owned by the purchasers themselves. 

136. Reasons for Differences in Rates of Interest. — 
Conceding the accuracy of the above analysis, the reader 
may be inclined to ask why bank credit, the cheaper 
medium of exchange, does not, in obedience to Gresham's 
Law, entirely supersede standard money. This is because 
there are very definite limits to the use that may be made 
of it. In the first place, it must never be forgotten that 
bank credit is efficient as a medium of exchange only so 
long as it is convertible at will into legal money. Bankers 
must be constantly on their guard against unduly multiply- 
ing their deposit or note liabilities, and the public must 
be constantly on its guard against trusting bankers who are 
not safe, conservative men. These two considerations tend 



258 CREDIT AND BANKING 

to confine the banking business to men who may be trusted 
not to be carried away by the possibilities of gain afforded 
by their position, and to cause such men to regulate their 
use of credit by reference to the reserve of legal money 
which they are able to maintain as a guarantee that all 
obligations will be instantly discharged. A second point to 
remember is that the nature of bank credit limits its use to 
borrowers whose need of purchasing power is only tempo- 
rary. A commercial bank cannot lend on long-time paper 
to any considerable extent without losing that quick con- 
trol over its assets that is indispensable to its solvency, since 
nearly all of its liabilities must be discharged on demand. 
Its loans must be on call or short-time paper, and this con- 
fines its services to business men whose transactions are of 
such a nature that they can count confidently on ability to 
repay, after a brief interval, what they have borrowed. 

Within the limits determined by the nature of their busi- 
ness, commercial banks compete actively to lend their credit 
at interest. Where banking is well organized this insures 
to those business men who can avail themselves of call and 
short-time loans accommodation at rates of interest as 
low, and at times even lower than that paid by the safest 
long-time investments. The lowest rate normally is that 
paid for call loans. Only men who are engaged in opera- 
tions on the stock exchange, which they believe they can 
conclude without loss on short notice, venture, usually, to 
make themselves liable for loans of this character. In 
contrast with the limited demand for such accommodation 
on the side of borrowers, there is an almost indefinitely 
large supply of funds to be loaned at call on the side of 
lenders. Other things being equal, call loans are those 
dearest to the banker's heart. They enable him virtually to 
" have his cake and eat it too," to retain control over his 
assets at the same time that these are earning interest. 
These two circumstances explain why the call rate is some- 
times as low as one-half of one per cent and usually lower 



CALL AND TIME LOANS 259 

than the rate on the safest bond investments. The call rate 
is also the one subject to the most violent fluctuations. 
Those who borrow on call do so nearly always to buy stocks 
or bonds. If their calculations miscarry, they may be asked 
to repay at the very time when it is most awkward to do so. 
Rather than sell, on a depressed market, the securities they 
have purchased, borrowers are often willing to pay ex- 
travagant rates of interest for a few days in the hope that 
the prices of these securities will rally. It is thus not un- 
common for the call rate to rise to 50, 75 or even 100 per 
cent for a few hours or days when a decline in stocks is in 
progress or banks are calling in their loans to be ready for 
emergencies. 

Loans on short time, which are less attractive to lenders, 
are, on the whole, more attractive to borrowers, but, as 
before, those who wish the use of purchasing power for 
thirty, sixty or ninety days only, are a limited class. The 
normal relation between supply and demand fixes the rate 
of interest on short-time loans comfortably above the call 
rate and even somewhat above the rate on such permanent 
investments as safe railroad bonds or real estate mortgages. 
The rate on long-time loans is little affected by the use of 
bank credit as a medium of exchange in place of standard 
money, for the reason already explained that commercial 
banks cannot afford to tie up their loanable funds under 
long-time contracts. 

Speaking generally, it is the tendency in countries in 
which the banking business is open to all who can command 
the requisite capital, as it is in the United States, for the 
supply of funds loanable at call or on short time to be 
multiplied until the rate of interest on such loans bears a 
certain normal relation to the rates of interest in other 
fields of investment. Ability to loan their credit as well as 
standard money enables commercial banks to satisfy the 
requirements of business men at lower rates of interest than 
could possibly be offered if every loan negotiated meant so 



260 CREDIT AND BANKING 

much cash withdrawn from the control of the bank. Com- 
petition prevents the banks from retaining for themselves 
the profit which results from the use of their credit. They 
share it with their customers, and through these customers 
the whole business community is benefited. At last analysis, 
rates of interest on bank loans are determined, like other 
rates of interest, by the earning power of capital. Credit 
serves merely to supplement standard money as a medium 
of exchange and introduces no new principle to necessi- 
tate a qualification of the explanation of interest already 
given. 

137. History of the National Banking System. — The 
national banking system of the United States was an out- 
growth of the Civil War. To meet the expenses of that 
struggle the Federal Government was forced to issue bonds 
on an unprecedented scale. The national banks were 
created to furnish a market for these bonds and at the same 
time to take the place of the State banks, which were not 
in a sound condition in all sections of the country. The 
original act, passed in 1863, was revised in important re- 
spects by the National Bank Act of 1864, which, as 
amended by subsequent statutes, is still the basis of the 
system. 

General supervision over the national banks is vested in 
the Comptroller of the Currency, who represents the Sec- 
retary of the Treasury in all his relations with these insti- 
tutions. The law permits the former officer to issue certifi- 
cates of incorporation, valid for twenty years, to any five 
reputable citizens who wish to establish a national bank 
and can command the requisite capital.* Banks organized 
with a capital of $150,000 or less must invest one-fourth 
of their capital in United States bonds and deposit them 
with the Comptroller of the Currency. Originally, larger 

*The minimum capital in places of 50,000 or more inhabitants is 
$200,000. An amendment added in 1900 makes the minimum for 
places of 3000 inhabitants or less $25,000. 



THE NATIONAL BANKING SYSTEM 261 

banks had so to invest one-third of their capital, but at 
present the requirement for such banks is the deposit of 
$50,000 only in bonds. Any national bank may so invest 
its entire capital. In exchange for the bonds deposited, 
the Comptroller is required to issue national bank notes up 
to their par value (or their market value if they are quoted 
below par). Banks which receive such notes must deposit, 
in addition to the bonds, a redemption fund in lawful money 
equal to five per cent of the face value of their notes in 
circulation. The currency panic and collapse of bank 
credit which occurred in October, 1907, led in 1908 to 
the enactment by Congress of an amendment to the Na- 
tional Bank Act, which permits, under careful limitations, 
the issue by national banks organized in " national cur- 
rency associations " of " emergency notes " to the aggre- 
gate amount of $500,000,000. As a basis for these notes 
securities other than United States Government bonds are 
accepted, the Treasury being protected from loss by the 
joint-liability of all the banks in the " currency associa- 
tion," by a ten instead of a five per cent deposit in the 
redemption fund and by the large margin required between 
the value of the securities accepted and of the notes issued. 
Moreover the notes are subject to a heavy tax rising from 
five per cent the first month to ten per cent in case they 
remain in circulation for as long as six months but not 
longer than a y;ear. This insures that the notes will be 
issued only in acute emergencies and that they will be 
promptly retired so soon as the emergency is passed. On 
the strength of the ample security provided for the ultimate 
redemption of bank notes at the expense of the issuing 
bank, the United States Government itself assumes respon- 
sibility for the redemption of such notes, with the conse- 
quence, as already pointed out, that they are considered as 
safe throughout the United States as any kind of money in 
circulation. Besides issuing notes — a function practic- 
ally confined to the national banks, since the demand notes 



262 CREDIT AND BANKING 

of State institutions are subject to a tax of ten per cent 
under an act passed in 1865 — the national banks may en- 
gage in a general banking business, except that they may 
not lend on the security of real estate. 

Depositors in the national banks are protected in vari- 
ous ways. When such banks fail, their stockholders are 
liable to assessment, to make up any deficit, up to the full 
par value of their stock. The banks are required to make 
at least five reports of their condition in the course of each 
year on such dates as may be designated without previous 
notice by the Comptroller. They must also submit to 
periodic examinations — also unannounced — by bank ex- 
aminers acting under the orders of the Comptroller and em- 
powered to inquire into every detail calculated to throw 
light on the true condition of the bank examined. Finally, 
the banks are divided into three classes— central reserve 
city banks (those of New York, Chicago and St. Louis, 
on October 1, 1908), reserve city banks and others. Banks 
in the first class are required to keep continuously a reserve 
in lawful money equal to 25 per cent of their deposit liabil- 
ities.' Those in the second class must also have a reserve of 
25 per cent, but one-half of this may be kept on deposit 
with national banks in the central reserve cities. The re- 
serve required of banks in the third class is only 15 per 
cent, and of this three-fifths may be kept on deposit with 
national banks in reserve cities. Whenever a bank's reserve 
falls below the legal minimum it is required to discontinue 
its discount business until the reserve is restored, and if this 
is not accomplished within thirty days it may be placed 
in the hands of a receiver. 

138. Defects in the System and Remedies. — On the 
whole, the banking system which has grown up under the 
regulations just described has more than justified the an- 
ticipations of its authors. Not only have national banks 
multiplied until they now carry on the bulk of the com- 
mercial banking business of the country, but national bank 



DEFECTS AND REMEDIES 263 

notes have proved a perfectly safe medium of exchange 
and depositors in national banks have lost surprisingly 
little as the result of bank failures since the system came 
into operation. There are, however, two respects in which, 
in the opinion of most authorities, the system admits of 
improvement. These are in connection with the note issue 
and reserve requirements of the present law. 

The primary reason for permitting banks to issue notes 
is to enable them to supply the business community with a 
cheap and elastic medium of exchange in sections and for 
transactions for which checks are unavailable. The bank 
note system of the United States is perversely elastic. 
Helpful elasticity results when banks are put in a position 
which makes it profitable for them to issue additional notes 
when more currency is needed, and to withdraw notes from 
circulation when the currency is redundant. One symptom 
of a need for currency in districts which cannot make large 
use of checks against deposits as a medium of exchange, is 
the withdrawal of deposits, and this must force banks to 
raise their rate of interest unless they can meet the emer- 
gency by an issue of notes. A redundant currency, on the 
othef hand, is indicated by an increase in deposits. If the 
bank note currency is elastic it will expand to satisfy the 
increased demand for currency in the former case, and 
contract in the latter. This takes place under the bank- 
ing systems of most countries, but under the system of the 
United States, which requires, in addition to the five per 
cent redemption fund deposit, a dollar for dollar bond de- 
posit, a contraction in bank deposits makes profitable not 
the issue, but the withdrawal of notes. When deposits are 
being withdrawn a bank wishes to increase its available 
funds. It cannot do this in the United States by issuing 
bank notes, because for every one hundred dollars so issued 
more than .one hundred dollars must be tied up in the 
premium bonds and redemption deposit required as security. 
On the contrary, it can do it by withdrawing bank notes 



264 CREDIT AND BANKING 

from circulation, because for ninety-five dollars in legal 
money sent to Washington for this purpose a bond that 
may be sold at once for more than one hundred dollars will 
be returned. It is only when the currency is already re- 
dundant that national banks are likely to find it profitable 
to increase their note issues. At such times they have un- 
loaned money in their vaults. Investing this money in 
United States bonds which afford an interest and receiving 
back a nearly equal sum in bank notes may, under these cir- 
cumstances, prove profitable. The tendency of bank notes 
under our national banking system is thus to contract 
when expansion is desirable, and to expand when the cur- 
rency is already redundant. This is not true of the 
emergency notes authorized by the act of 1908, but the 
onerous restrictions limiting the issue of such notes confine 
their use to periods of acute money stringency. A bet- 
ter bank note system would prevent a money stringency 
from becoming acute and thus render the issue of emer- 
gency notes, except under extraordinary circumstances, 
unnecessary. 

Two features of the emergency-currency act of 1908 sug- 
gest the directions which the reform of our bank note sys- 
tem should take. They are the provisions making the banks 
organized in currency associations jointly responsible for 
their note issues and permitting the deposit of two-name 
credit paper having no more than four months to run as 
security for the notes to be issued. Joint-responsibility on 
the part of the banks is important because its absence 
encourages banks to meet a threatened stringency by 
hoarding their individual resources when what is needed to 
restore public confidence is the courageous use of the col- 
lective banking capital to satisfy the legitimate require- 
ments of the business community. Permitting the issue of 
notes on the security of short-time credit paper is advan- 
tageous because such paper constitutes the chief item in 
the ordinary assets of a commercial bank and it may be 



DEFECTS AND REMEDIES 265 

hypothecated without any diversion of the bank's re- 
sources from their proper function, which is to furnish to 
responsible entrepreneurs the purchasing power they re- 
quire to carry on their business enterprises. Space will not 
permit an adequate discussion of this complicated prob- 
lem, but it is believed that no satisfactory solution of it 
will be attained until concentration of banking responsi- 
bility for bank note issues is carried to the point of creat- 
ing one central bank of issue and until this central bank 
is allowed to put notes in circulation, under proper safe- 
guards, on the basis of its ordinary banking assets. This 
is the policy to which the leading countries of Europe have 
been brought, and the signal success of the Bank of France 
and of the Imperial Bank of Germany in supplying those 
countries with safe and elastic bank note currencies invites 
imitation. 

The second defect referred to consists in permitting the 
reserves required by law of national banks in classes two 
and three to be deposited in part with other banks. To the 
extent that legal reserves are necessary, they should be 
required without qualification of the banks for which the 
reserve is intended. The present system of the United 
States tends to concentrate a large part of the re- 
serves of national banks in the national banks in cen- 
tral reserve cities, and especially in New York. Since 
the latter treat the deposits of other banks in much 
the same way that they do the deposits of individuals 
and maintain ordinarily only the 25 per cent reserve 
against them required by law, the banking system of the 
whole country is exposed to serious danger whenever any 
unusual demand is brought to bear on the banks of New 
York. This concentration of responsibility for the whole 
credit system in the financial center of the country is to 
some extent natural and inevitable, but it seems in the 
highest degree imprudent deliberately to encourage and 
extend it, as does the present law. Requiring each bank 



266 CREDIT AND BANKING 

to keep in its own vaults its legal reserve would serve to 
foster conservative banking, whereas the present system 
conduces to recklessness and disregard on the part of the 
banks of their responsibility to their own depositors. 

139. Conclusion. — It would be difficult to exaggerate 
the importance of the services which credit, and especially 
bank credit in its various forms, renders the business com- 
munity. Through the agency of banks a cheap and elastic 
check currency is substituted for money, which is both 
costly and for many purposes inconvenient. They serve to 
gather together the small savings of thousands of persons, 
to whom they are of no immediate use, and to put them at 
the disposal of active entrepreneurs on terms which enable 
the latter to produce at a minimum of cost. Finally, they are 
the ready agents of the Government and of great corpora- 
tions when large sums of purchasing power are required, 
and carry through easily financial operations which without 
their aid would be fraught with most serious consequences 
to the whole business world. Notwithstanding these serv- 
ices, there is in the United States a widespread distrust of 
banks and bankers, which has been reflected more than once 
in Federal and State legislation. The impression is widely 
prevalent that while banks themselves reap large gains by 
lending their credit at interest, no corresponding benefits 
extend to those who borrow from banks. That this belief 
is without foundation has been suggested in the preceding 
sections. In banking as in other branches of business com- 
petition is a force which compels a sharing of profits with 
the whole community. The more fully the banker is per- 
mitted to utilize his credit either in the form of deposit 
accounts or bank notes, the lower will be the rate of inter- 
est which he can afford to take for his services, and competi- 
tion may be relied upon to force him to accept this lower 
rate. The guiding principle in connection with bank regu- 
lations should be to grant the fullest liberty that is com- 
patible with a reasonable degree of security. Little fear 



CONCLUSION 267 

need be entertained lest in the long run this liberty will not 
be used to advance the general good. 



REFERENCES FOR COLLATERAL READING 

In addition to the references given in the preceding chapter the 
following are suggested : * Dunbar, The Theory and History of Bank- 
ing; * Seligman, and others, The Currency Problem; * Muhleman, 
Monetary and Banking Systems; Bolles, Practical Banking; Co- 
riant, History of Modern Banks of Issue; Knox, History of Banking; 
Hadley, Economics, Chap. VIII. 



CHAPTER XVI 

FOREIGN EXCHANGE AND SOME UNSETTLED 
MONETARY PROBLEMS 

140. The Nature of Foreign Exchange In foreign as 

well as domestic trade credit now serves as the principal 
medium of exchange. Those who purchase goods from 
abroad pay for them by buying drafts, or postoffice, ex- 
press or cable money orders and sending the latter to the 
foreign seller, or by permitting the foreign seller to draw 
on them by means of drafts, or bills of exchange, for the 
sums due. Orders for the payment of money in a foreign 
country are called " foreign exchange," and the buying 
and selling of such exchange is, as already suggested, a 
usual part of the business of a modern city bank. A de- 
scription of the factors that enter into this business as it 
is conducted between the United States and the United 
Kingdom will serve to introduce a discussion of some of its 
more general aspects. 

Anglo-American trade now includes as varied transac- 
tions as the trade between different sections of either coun- 
try. In addition to commodities, stocks, bonds and other 
securities are constantly dealt in between the two coun- 
tries ; profits, rents, interest and even wages are trans- 
mitted; freight charges are paid; travelers abroad re- 
ceive remittances from home, and finally bankers' loans 
are exchanged. If these different transactions be looked 
at from the point of view of one of the countries, say, of 
the United States, they arrange themselves under two 
heads: those involving payments to the country and those 
involving payments by the country. The first may be 



NATURE OF FOREIGN EXCHANGE 269 

thought of as credits acquired by the United States. 
These arise from sales of commodities or securities, from 
payments in the way of profits, rents, interest or wages 
due to Americans from the United Kingdom, from the 
expenditures of Englishmen in the United States and 
finally from loans by English to American bankers. The 
second may be described as debits, and arise from the 
opposite transactions, e. g., purchases of commodities or 
securities, loans to English bankers, etc. 

For reasons which it would take too long to explain the 
custom has arisen of making London the clearing house 
for the credit instruments used in connection with foreign 
trade. Americans having payments to make in England 
usually buy drafts payable in London and transmit them 
to their creditors. Americans who are creditors of Eng- 
lishmen, on the other hand, usually draw drafts or bills of 
exchange, payable in London, upon their debtors, in pref- 
erence to waiting for the latter to remit. They sell these 
to bankers, who send them to their correspondents in Lon- 
don for collection. Orders for money payable in London 
are known as " sterling exchange " because they call for 
pounds sterling. If the orders for payments to English 
creditors are exactly offset by the orders for payments by 
English debtors, the credit instruments which arise in 
connection with the various transactions described will just 
balance one another when they come together in London 
and no other medium of exchange than credit will be re- 
quired. This outcome, where transactions are so vast, is, 
of course, very unusual. It more frequently happens that 
there is a balance either on the credit or on the debit side 
to be liquidated by means of further transactions. 

141. Sterling Exchange and the Gold Points. — The 
rate at which sterling exchange is quoted in the United 
States never departs very far from the sum in American 
dollars into which the 113 grains of gold in the standard 
English coin, the sovereign (equivalent to one pound ster- 



270 UNSETTLED MONETARY PROBLEMS 

ling), will be coined by our mints. This is called the " par 
of exchange " and is $4,866. The rate of sterling ex- 
change fluctuates within narrow limits about this par be- 
cause the alternative that is always open to American 
bankers and brokers who have debts to pay or to collect 
in the United Kingdom is to export or import standard 
gold coin. The limits within which sterling exchange 
normally fluctuates are called the " gold points " and are 
now approximately for demand exchange $4.84% and 
$4.88. That is to say, when the rate for sterling ex- 
change falls as low as $4. 84% the margin between this 
and par rather more than suffices to cover freight, insur- 
ance, loss of interest, etc., on the sovereigns that may be 
imported and exchanged, if of full weight, @ $4,866 
for American coins at our mints. Under these circum- 
stances there is always an active competition among bul- 
lion brokers to buy sterling exchange as it approaches 
$4.84%. The more they can buy at this low rate the 
larger the profit they can make by importing the gold 
for which it calls. This competition prevents the rate 
from falling lower. On the other hand, as the rate of 
sterling exchange rises toward $4.88 it begins to be prof- 
itable to export American gold to be converted into Eng- 
lish money in order to sell exchange against it at the pre- 
mium. The margin between the high rate and par now 
covers the freight, insurance, loss of interest, etc., on 
American gold sent to London and as before the competi- 
tion of bullion brokers prevents the rate from rising above 
the upper gold point. In determining the gold points 
stated interest is figured at six per cent. A higher rate 
widens the gap between the gold points; a lower nar- 
rows it. 

142. The Rate of Sterling Exchange. — The rate of 
sterling exchange is determined from day to day by the 
relation between the demand for it and its supply. All of 
the transactions which have been enumerated as belonging 



STERLING EXCHANGE 271 

on the debit side, from the point of view of the United 
States, give rise to a demand for sterling. The supply 
comes from the transactions enumerated on the credit side. 
International bankers and others who buy and sell for- 
eign exchange tend by their competition to adjust the 
rate so that the demand and supply will just balance. 
Excess on the side of supply causes the rate to fall, the 
limit being the lower gold point, at which credit is aban- 
doned as a medium of exchange and gold is used instead. 
Excess on the side of demand causes the rate to rise, the 
limit here being the upper gold point, at which credit 
again is discarded and gold used. Gold thus serves as the 
medium in which international balances are settled when 
debits and credits fail to offset each other. 

Among the transactions which give rise to debits and 
credits the most sensitive are those we have characterized 
as bankers' loans. Anglo-American banking houses, of 
which there are many, divide their banking capital be- 
tween London and New York. Self-interest leads them 
to keep the major part of this capital and of their entire 
loanable funds at that center in which the higher rate of 
interest prevails. Suppose that for a time this center 
happens to be New York — as it usually is. To take ad- 
vantage of the high rate, bankers will wish to transfer 
their funds from London to the more profitable loan mar- 
ket. They will do this most cheaply by selling drafts on 
London so long as they can get a price for these drafts 
above the lower gold point. A rising rate of interest in 
New York thus serves to attract loanable funds from 
abroad, and these add to the supply of sterling bills. This 
cause may serve to add so largely to the supply that the 
rate of exchange is forced down to the lower gold point 
and a part of the transfer is effected by means of an 
importation of gold. In fact, the Bank of England and 
the state banks of other countries, which are in a position 
to control the bank rates of interest, commonly secure gold 



272 UNSETTLED MONETARY PROBLEMS 

when they want it by advancing their rates of discount 
until the rate of exchange is brought to the gold import 
point. 

More important in their aggregate effect than changes 
in rates of interest are changes in the prices of the com- 
modities and securities that enter into foreign trade. Fall- 
ing prices in the United States attract foreign buyers and 
their purchases add to the supply of sterling bills. Rising 
prices not only discourage foreign purchases, but stimu- 
late purchases from abroad on the part of Americans, thus 
adding to the demand for bills. Through these two influ- 
ences — changes in interest rates and changes in prices — 
the rate for sterling exchange is kept oscillating back- 
ward and forward, but always within the limits fixed 
by the gold points — always, that is, unless the credit sys- 
tem of one of the countries concerned is seriously out of 
order.* 

143. Three-cornered Exchanges. — In the preceding dis- 
cussion attention has been confined to foreign exchanges 
between the United States and the United Kingdom. In 
actual practice these exchanges are intimately connected 
with all the other foreign exchange transactions to which 
the countries are parties. Credit is so much more eco- 
nomical than bullion as a medium of exchange that the 
latter is only shipped after all of the resources of credit 
have been exhausted. In the case of the United States 
some branches of its trade, as, for example, its trade with 
Brazil, call habitually for payments that are not offset 
by credits acquired in that country by Americans. Never- 
theless, bullion is rarely shipped from the United States 
to Brazil, because it is quite as satisfactory to Brazilian 
bankers to receive sterling bills which add to their credits 

* As was, for example, that of the United States in the autumn 
of 1907, when the premium which money commanded in New York 
caused gold to be imported from London, although the rate for 
sterling exchange stood near the point at which gold is normally 
exported. 



GOLD SUPPLY SELF-REGULATING 273 

in London, and on the basis of which they can sell drafts 
to Brazilian importers from Europe. Thus a three-cor- 
nered exchange of credit instruments serves to adjust bal- 
ances, which would otherwise necessitate the shipment of 
gold back and forth across the Atlantic. 

Another complication arises in connection with foreign 
exchange when the monetary systems of the countries con- 
sidered are not based on the same standard. Between the 
United States with its gold and China with its silver, or 
the Argentine Republic with its paper standard, there is 
no fixed par of exchange. The general principles regu- 
lating rates of exchange are the same in such cases as for 
two countries with the gold standard, but the range within 
which such rates may fluctuate admits of no precise defini- 
tion. This is an inconvenience that will be avoided only 
when the gold standard has been universally adopted. 

144. A Country's Gold Supply Regulates Itself. — The 
importation or exportation of gold, which is the resort 
to which international bankers must have recourse when 
foreign credits and debits can be balanced by no cheaper 
means, causes a continuous redistribution of the world's 
supply of that metal. The last and most important point 
to note in the theory of foreign exchange is that this dis- 
tribution is self -regulating and always gives to each coun- 
try that proportionate share of gold which is needed to 
keep its rate of interest and level of prices in their normal 
relation to those of other countries. Suppose the cause of 
the movement of gold from one country to another is a ris- 
ing bank rate of interest. As gold pours in and is added 
to bank reserves in the country affected it will tend to check 
such a rise, and meantime bank rates abroad, where bank 
reserves have been depleted, will tend to rise to re-establish 
the normal relation. If the cause of the higher rate in the 
gold-importing country was some temporary demand for 
bank loans, bankers will find their reserves too large when 
the emergency has passed, and will lower their rate of 



274 UNSETTLED MONETARY PROBLEMS 

interest to attract borrowers. Before this process has 
gone far, an exportation of gold will be likely to set in 
to re-establish the balance. Suppose, again, that the im- 
portation of gold has been induced by the low prices at 
which commodities are being sold in the importing country. 
Such importation will before long itself cause prices to 
rise, there being more money to serve as a medium of ex- 
change than before, while the withdrawal of gold from 
other countries will in time cause their prices to fall. 
These results will follow the more promptly because ordi- 
narily the new gold will find its way into bank reserves 
and will add to the use of credit as a medium of exchange 
much more largely than it adds to the country's supply 
of standard money. In the same way its exportation will 
serve ordinarily to deplete bank reserves and to cause a 
contraction of credit that will lessen the supply of media 
of exchange by much more than the amount of gold lost. 
By these means the movement of gold in one direction is 
soon checked with every likelihood that a counter-move- 
ment will follow, unless the new distribution proves per- 
manently satisfactory because of some increased need on 
the part of the importing country. 

It follows from the above considerations that the im- 
portation or exportation of gold is not a matter of any 
special importance either to the business community or to 
the government unless a country's monetary system is in an 
unsound condition. If gold is leaving a country, as it 
left the United States in 1893, because its place is being 
taken by an excessive issue of credit money, grave uneasi- 
ness may well be felt. If, on the other hand, it is being 
imported because of a violent contraction of credit that 
has suddenly increased the demand for legal money as a 
means of payment, as it was into the United States in the 
autumn of 1907, there is again ground for anxiety. Expe- 
rience of movements of gold excited by causes like these 
has led American business men to attach exaggerated 



VALUE OF GOLD AND PRICES 275 

importance to this phenomenon even when the reasons for 
it are perfectly normal. There is a widespread belief, in- 
herited from the Mercantilists of the eighteenth century, 
that to gain gold is an advantage and to lose it a disaster. 
Even in countries which produce no gold themselves there 
is no basis for this belief. They can count confidently on 
retaining their proportionate share of the world's gold 
so long as their money and credit systems are sound. For 
a country like the United States, which contributes each 
year more than one-fourth of the total addition to the 
world's gold supply, the belief is absolutely groundless, 
since the normal condition for the United States is to 
export its surplus gold, as it exports its surplus cotton 
and wheat. 

145. The Value of Gold and Prices. — Although the 
subject of money was one of the first to engage the atten- 
tion of economists and thousands of volumes and pam- 
phlets have been written concerning it, there is still great 
difference of opinion in regard to some of the problems 
which it presents. These have been styled " unsettled," 
to warn the reader that in the following sections contro- 
verted points are considered and that he must be on his 
guard against accepting too readily the opinions of the 
author. The first problem relates to the factors which 
determine the value of money or — what is the same thing — 
the level of prices. 

The influences which connect the value of the dollar of 
the United States with the value of 23.22 grains of gold 
have already been explained (Sections 125-126). So long 
as these continue active the gold standard must be main- 
tained and " the value of money " will be merely another 
expression for the value of gold. Our problem reduces 
therefore to an explanation of the circumstances which 
determine the value of gold. In previous chapters it has 
been shown that the value of any commodity depends 
transiently upon the temporary relation between the de- 



276 UNSETTLED MONETARY PROBLEMS 

mand for it and its supply and in the long run on the 
more permanent influences which adjust the normal supply 
to the normal demand. The demand for a commodity 
springs from the various uses to which it is put. In the 
case of gold we may distinguish these as the industrial and 
arts uses, which give rise to what we will call the " arts 
demand," the use as a medium of exchange, which gives 
rise to the " monetary demand " proper, and the use as a 
reserve of value for the redemption of credit money and 
credit instruments generally, which gives rise to a second- 
ary monetary demand, which we will call the " reserve de- 
mand." An increase in either of these three forms of de- 
mand tends to increase the value of gold and incidentally 
to withdraw it from other uses to the use in connection with 
which the increase in demand has arisen. On the other 
hand, a decrease in the supply of gold will tend to increase 
its value. Unless the increased demand is balanced by an 
increased supply or the decreased supply by a decreased 
demand, the increase in value will actually occur and the 
level of prices will fall. Exactly opposite results, of 
course, follow a decrease in either form of demand or an 
increase in supply. 

146. The Demand for Gold or Money The demand 

for gold — which under our free and gratuitous gold coin- 
age system is the same as money — is as definite and lim- 
ited as is the demand for any other commodity. For it is 
not true, as some writers have stated, that " money is the 
one thing of which no one ever has enough." Such a view 
confuses the desire for wealth in general with a demand 
for money and loses sight of the fact that the amount 
of money each one can use advantageously depends on the 
amount of his wealth and the nature of his business. The 
limitations on the demand for gold, or money, become evi- 
dent as we consider the three different kinds of demand. 

The arts demand is very general and highly elastic. At 
present it is believed to absorb between one-fifth and one- 



THE DEMAND FOR GOLD 277 

fourth of the annual production, and in the future it 
may be depended upon to increase with the growth of the 
world's population and wealth. The monetary demand 
for gold depends on the number of exchange transac- 
tions to be effected with gold coin as the medium. No 
exact calculation of the number of exchanges to be effected 
can be made, but it is obvious that this is only because of 
the incompleteness of our information and not because the 
number is not limited and measurable. As already pointed 
out only a small proportion of the exchanges that are 
effected use gold as their medium. The vast majority 
employ credit in its various forms. In the United States 
gold coin is hardly used at all as a medium of exchange 
east of the Mississippi River. Where money is required, 
the various forms of token and credit money supplied 
by the Government are found more convenient. More- 
over the use of money of any kind is the exception rather 
than the rule in all advanced countries. Book-credit, 
checks, drafts, money orders, bills of exchange, etc., are 
the usual means of payment employed by twentieth cen- 
tury business communities. In consequence the monetary 
demand for gold is the least important of the three forms 
of demand and the one most likely to decline in relative 
importance in the future, because of the increasing prefer- 
ence of progressive countries for forms of credit as their 
media of exchange. 

The reserve demand for gold includes not only the de- 
mands of governments which have to provide for the re- 
demption of their token and credit money and of banking 
institutions which have their credit obligations to meet, 
but also the demand of individuals who wish for any rea- 
son to have by them a store of the precious metal. This 
demand has increased greatly in the last thirty years in 
consequence of the fact that most of the countries which 
have established the gold standard during that period, 
have contented themselves, as has the United States, with 



278 UNSETTLED MONETARY PROBLEMS 

securing sufficient gold to insure the convertibility of their 
other forms of money without actually withdrawing these 
from circulation. This has necessitated in all parts of 
the world the accumulation of large gold reserves. Exact 
statistics in regard to the extent of the gold reserves held 
by all the governments and banking institutions through- 
out the world are not available, but judging from the 
amount of gold that is known to be held in the United 
States and some of the leading countries of Europe, it is 
safe to say that more than one-third the entire stock of 
gold in existence is required to satisfy the reserve de- 
mand. Moreover, if our anticipation that the monetary 
demand for gold will decline in the future is well grounded, 
there must be a relative increase in the reserve demand, 
since every extension of the use of credit implies addi- 
tional reserves on the part of the governments or banks 
which supply the credit media. This increase will not be 
as rapid as it has been in the recent past when one country 
after another has adopted the gold standard and there 
has been at times a veritable " scramble for gold," but it 
should cause the monetary and reserve demands for gold 
combined to keep pace with the growth of population and 
wealth. Considering all three forms of demand together 
we may conclude that the demand for gold in coming 
years is likely to grow at about the same rate as the 
world's wealth, but that it will be subject to violent fluctu- 
ations until the machinery of credit is so perfected that 
it is no longer liable to the periodic break-downs which 
were so common during the last century. 

147. The Supply of Gold. — The supply of gold admits 
of more exact measurement than the demand for it. Ac- 
cording to different authorities the world's stock by 1850 
equaled between $2,000,000,000 and $3,000,000,000. The 
production since that date has amounted to about $8,000,- 
000,000, so the present stock is between $10,000,000,000 
and $11,000,000,000. The history of gold production 



THE SUPPLY OF GOLD 279 

since 1850 is briefly summarized in the following statistics. 
From 1851 to 1860 the annual production averaged 
$133,000,000, attaining in the latter year the value of 
$134,000,000, which was not equaled in any subsequent 
year until 1892. The lowest point was reached in the 
early eighties, since which time there has been a fairly 
steady increase, as shown by the following table: 

World's Production of Gold 

Annual average, 1871-1880 $115,000,000 

" " 1881-1885 99,000,000 

" " 1886-1890 113,000,000 

" « 1891-1895 161,000,000 

■ " 1896-1900 258,000,000 

■ " 1901-1905 322,000,000 

" « 1906 400,000,000 

" " 1907 405,000,000 

As these statistics indicate, the production of gold re- 
sponded but slightly to the increased monetary and reserve 
demands prior to 1895. Since that date the response has 
been increasingly adequate. In consequence of the South 
African War production was temporarily interrupted in 
1900 and 1901. In 1902 the upward trend was resumed 
and since 1903 each year's output has established a new 
high record, with every indication that production on an 
ample scale will be continued for some time to come. 

A comparison of the tendencies that have been described 
as regards the demand for and the supply of gold since the 
early seventies suggests the probability that during the 
period of expanding demand and small production which 
preceded 1896 the value of gold would have appreciated 
markedly, and that with the return of demand to normal 
conditions and the notable increase in production since its 
value would have depreciated. That just such an up and 
down movement — or down and up movement, if we look at 
the phenomenon from the viewpoint of prices — occurred, 
is proved by a study of the statistical evidence. 

148. How the Value of Money or Gold is Measured • 

The value of money is measured, as is the value of any- 



280 UNSETTLED MONETARY PROBLEMS 

thing else, by the quantity of other commodities for which 
it will exchange. When two periods are to be compared 
a difficulty arises because the value of money will be found 
usually to have changed in different directions as regards 
different commodities. This is avoided by the method of 
index numbers. To illustrate its use, suppose that wheat, 
anthracite coal, pig iron, cotton cloth and copper be taken 
as representatives of all commodities, and that it be found 
that on January 1st of a certain year one dollar would 
buy one bushel of wheat, one-fifth of a ton of anthracite 
coal, one-twentieth of a ton of pig iron, twenty yards of 
cotton cloth or ten pounds of copper, while on January 
1st of another year a dollar would command three-fourths 
of a bushel of wheat, one-fourth of a ton of coal, one- 
tenth of a ton of pig iron, twenty-five yards of cloth or 
five pounds of copper. Using 100 as an index number for 
the different commodities we should write out the following 
tables for the two dates: 



January 1, First Year 
$1 = 1 bushel wheat. . . = 100 

" = 1-5 ton coal =100 

" = 1-20 ton iron =100 

" = 20 yards cloth =100 

" = 10 pounds copper. =100 


January 1, Second Year 
$1 = 3-4 bushel wheat. . = 75 

" =1-4 ton coal =125 

" = 1-10 ton iron =200 

" = 25 yards cloth. . . . = 125 
" =5 pounds copper. . = 50 


$5 = 500 
or$l = 100 


$5 = 575 
or$l = 115 



The calculation indicates that the value of a dollar, as 
measured in these five commodities, increased between the 
two dates from 100 to 115, or 15 per cent. By extending 
it to include all commodities, we could obtain similar aver- 
ages for the two dates that would seem to give a compre- 
hensive view of any change in the value of money that 
might have occurred between them. 

This method, called that of simple averages, is open to 
the objection that it treats all commodities as of equal im- 
portance in their influence on the value of money. It is 
obvious that there will be chance of error if such diverse 



PRICE STATISTICS 281 

goods as, for example, coal and chewing gum each be given 
the same index number for the purpose of a calculation. 
To avoid this three different expedients have been pro- 
posed: (1) to confine the calculation to the principal com- 
modities which figure in a country's trade or consumption ; 
(2) to assign different index numbers to different commod- 
ities " weighted " so as to correspond to their different 
degrees of importance; (3) to repeat important commod- 
ities in different forms in the calculation so that they will 
have greater influence on the result than unimportant com- 
modities that appear but once. Space will not permit a 
detailed consideration of the merits of these different plans, 
but the general observation may be made that in practice 
the method of simple averages, judiciously employed, has 
been found to yield as accurate conclusions as the more 
elaborate methods proposed as substitutes for it. 

Whichever method for measuring the value of money, or 
gold, be used, it is usually more convenient to make the 
calculation in terms of the prices for which commodities 
sell than in terms of the quantities of commodities which 
a given sum of money will purchase. Any conclusion in 
regard to changes in prices may be readily translated into 
a conclusion in regard to the value of money, since, as 
already explained, they are in reciprocal relation to each 
other. To give a concrete example, suppose that a study 
of prices shows a rise of 25 per cent in the general level 
during a given period. This signifies that commodities 
which formerly cost $1.00 will now cost on the average 
$1.25. This being the case, $1.00 will now purchase only 
four-fifths as much as it would before, or its value will have 
fallen one-fifth, or 20 per cent. 

149. Price Statistics and Changes in the Value of Gold. 
— Since serious attention began to be given to the influ- 
ence of price fluctuations on prosperity, numerous elab- 
orate investigations have been made into the course of 
wholesale prices over long series of years. Representa- 



282 UNSETTLED MONETARY PROBLEMS 

tive of such investigations and as trustworthy as any is 
that carried on by the United States Bureau of Labor,* 
the results of which are indicated on the chart opposite. 

Unfortunately this investigation begins no farther back 
than 1890, so it is necessary to supplement it with the re- 
sults shown by other inquiries. A comparison of all im- 
portant investigations tracing the course of gold prices 
from 1870 to 1890 proves conclusively that the fall in 
prices during the years 1890 to 1897 indicated on the 
chart was the culmination of a downward movement which 
began in the early seventies and which involved a total de- 
cline of nearly if not quite 50 per cent, or, what is the 
same thing, an appreciation of 100 per cent in the pur- 
chasing power of gold. After 1897, as shown by the chart, 
prices rose continuously — except for slight reactions in 
1901 and 1903— until the autumn of 1907, the total 
advance in the decade being over 44 per cent, or involving 
a depreciation in the value of gold of nearly 31 per cent. 
The " October panic " abruptly checked this upward tend- 
ency and the index number for the current year (1908) 
will undoubtedly show a more serious reaction than did 
those for 1901 and 1903. Whether this check, like the 
earlier ones, is to be temporary only and prices are to re- 
sume their upward swing with the return of prosperity, to 
the indefinite cheapening of gold, is a question the answer 
to which must have a determining influence on the future 
of the gold standard. But before we proceed to this topic, 
we should pause to consider the influence which these 
marked changes in the value of gold have had in shaping 
public opinion in regard to the merits of that metal as a 
standard. 

* Price statistics in regard to the 250 odd commodities included 
in the investigation together with the index numbers showing the 
course of average prices for the whole period covered are published 
each year in the March number of the Bulletin of the Bureau of 
Labor. For a full description of other calculations, see Laughlin, 
Principles of Money, Chap. VI. 



THE COURSE OF GOLD PRICES 



283 



RELATIVE PRICES OF ALL COMMODITIES, 1890 TO 1907 
[Average price from 1890 to 1899 — 100.] 



RIHTIVE 
PRICES 


1890 I89f 1892 1893 1894 1895 189G 1897 1898 1899 1900 1901 1902 1903 1904 1905 1906 1907 


132 
130 
128 
126 
124 
122 
120 
118 
116 
114 
112 
110 
108 
106 
104 
102 
100 
98 
96 
94 
92 
90 
88 
























































































































































9 





















































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































































150. International Bimetallism. — The adoption of the 
single gold standard was vigorously opposed not only in 
the United States, but in European countries, on the 
ground that the supply of gold was inadequate to satisfy 



284 UNSETTLED MONETARY PROBLEMS 

the needs of all nations. It was long contended, and is 
still by many thoughtful persons, that a much better mone- 
tary system for the world would be one which combines 
both gold and silver. Some countries, like England and 
her colonies, which have long had the gold standard, might 
continue on that basis. Others, like Mexico and China, 
which are accustomed to silver only, might maintain the 
silver standard. The best interests of all would be served, 
it is argued, if the remaining countries, which use both 
gold and silver, could agree upon some scheme of " inter- 
national bimetallism " which would establish a fixed value 
ratio between gold and silver and insure their continued 
use as the standard money materials of the world. 

For a time it seemed as though the fears of bimetallists 
in reference to the insufficiency of the gold supply were 
well grounded. Gold prices did, as we have seen, fall with 
alarming persistency, and the effect of the steady decline 
on the temper of the business community was decidedly 
unfavorable. If the suggested remedy could have been 
applied in 1873, the results might have been generally 
beneficial. Nothing was done, however, notwithstanding 
repeated international conferences, and after 1897, when 
gold prices began to rise again, the principal reason for 
action was removed. At present it is the general consensus 
of opinion that " international bimetallism," even if eco- 
nomically and politically practicable, is no longer needed 
and that any international agreement that is made should 
have for its object the extension of the gold standard to 
the few countries that are still on silver and paper bases, 
with a view to giving greater stability to foreign ex- 
change relations. In other words, gold has been accepted 
as the standard of value of the world, and the monetary 
problem of contemporary interest is how to extend this 
standard to countries which for special reasons do not care 
to make gold coin, even on a limited scale, their medium of 
exchange. 



FUTURE OF THE GOLD STANDARD 285 

In the United States the agitation for bimetallism as- 
sumed a more radical form than in Europe, the demand 
being made that the country embark alone upon the at- 
tempt to maintain a constant value ratio between gold and 
silver by throwing its mints open to the free coinage of 
the cheaper metal at the mint ratio of 16 to 1. This was 
made the dominant issue in the presidential campaign of 
1896, when the Republicans opposed to the Democratic 
declaration in favor of the free coinage of silver a some- 
what vague endorsement of international bimetallism. 
Again in 1900 free coinage was an issue, but already the 
reasons for the agitation had been withdrawn and there 
seems little likelihood of a revival of the question, at least 
in the same form. So fast has history been made in this 
field that what was but yesterday a burning political issue 
is now a question of merely historical interest. 

151. The Future of the Gold Standard. — The future of 
the gold standard hinges upon the questions whether the 
value of gold is likely to show a fair degree of stability 
in coming years, and whether any more stable standard, 
which is equally convenient in other respects, is attainable. 

As to the first point, present indications are believed to 
be very favorable. The transition to the gold standard 
has been accomplished, or is in a fair way to be accom- 
plished in the near future, for the whole commercial world. 
Under these circumstances there is every reason to antici- 
pate only that gradual increase in the world's demand for 
gold that will result from the gradual growth of the 
world's wealth and expansion of its exchange transactions. 
On the side of supply, production in the immediate future 
promises not only to be ample, but to be governed more 
exactly by the normal expenses of production than it ever 
has been in the past. Discoveries of new sources of supply 
and inventions affecting methods of mining and refining 
have, during the last ten years, advanced gold produc- 
tion in many parts of the world to the precision of a man- 



286 UNSETTLED MONETARY PROBLEMS 

ufacturing industry. In quartz mining in the Rand 
district in South Africa and in placer mining in the low- 
grade gold-bearing soils, which it is now profitable to treat 
by means of expensive hydraulic appliances, the expense of 
producing gold can be accurately estimated and the output 
can be increased or decreased on a considerable scale as 
changes in the value of the product make either course 
desirable. Thus the normal expenses of production prom- 
ise to be the regulator of the value of gold in the future, 
as they have been of other freely reproducible goods in the 
past. During the last ten years a readjustment has been 
going on in consequence of the discovery of new gold fields 
and of cheaper methods of recovering the precious metal. 
But unless the discovery of other and even cheaper sources 
of supply intervenes, the fall in the value of gold cannot 
long continue because every advance in prices which accom- 
panies it makes gold mining more expensive. Materials, 
tools, machinery, wages and other items of expense rise as 
gold falls. As a result the margin at which gold mining 
continues to be profitable is a progressively higher one and 
the production of gold must be checked correspondingly. 
It would be idle to venture to prophesy in regard to the 
future course of the value of gold, but this at least may be 
said: Unless new and cheaper sources of supply are dis- 
covered, there is every prospect that its value will be more 
stable during the next decade than it has been at any period 
during the last sixty years. 

152. The Multiple Standard. — Those who believe that 
the gold standard will one day be superseded base their 
faith, not on any alleged advantage of some other com- 
modity standard of value, but upon dissatisfaction with 
all commodity standards. Perfect stability of value is 
certainly unattainable along this line. One remedy sug- 
gested is the adoption of an immaterial standard, called 
the " multiple standard," whose value may be kept uniform 
by artificial regulation. The plan is somewhat as fol- 



THE MULTIPLE STANDARD 287 

lows: Since the value of the monetary unit is determined 
by the relation between demand and supply, and since 
paper money is the medium of exchange preferred in the 
more advanced countries, let each Government take upon 
itself the regulation of its monetary system and substitute 
fiat for self-regulating money. Let a special department 
of issue and redemption be created to adjust the supply of 
such money to the demand for it in such a way that the 
general level of prices shall be kept uniform from month 
to month and year to year. This may be done, it is sug- 
gested, by issuing additional legal-tender paper notes as 
prices tend to fall and withdrawing such notes — perhaps 
by the sale of low interest-bearing bonds — as prices rise. 
The measurement of prices might be made by means of 
index numbers in some such way as was described in a pre- 
vious section and the effort would be to keep the index 
number constantly at 100. 

Space will not permit discussion of the possibilities of a 
fiat, multiple-standard monetary system. There is, per- 
haps, no good theoretical reason for asserting that such 
a system could not be maintained by a country that was 
politically and commercially ready for it. On the other 
hand, no extended argument is necessary to show that at 
the present time the plan must be dismissed as imprac- 
ticable, especially as there are grounds for doubting 
whether it would prove, in operation, as satisfactory as the 
single gold standard promises to be for the immediate 
future. 



REFERENCES FOR COLLATERAL READING 

* Clare, A B C of the Foreign Exchanges; * Pierson, Principles 
of Economics, Part II., Chap. III.; Goschen, Theory of the Foreign 
Exchanges; * Johnson, Money and Currency; * Laughlin, Principles 
of Money; Walsh, The Measurement of General Exchange Value; 
* Taussig, Silver Situation in the United States ; * Walker, Inter- 
national Bimetallism ; * Sound Currency Redbook (published by 
Committee of the New York Reform Club) ; Russell, International 
Monetary Conferences. 



CHAPTER XVII 
THE TARIFF QUESTION 

153. Foreign and Domestic Trade Contrasted. — The 
difference between foreign and domestic trade is a differ- 
ence of degree only. It happens that the continent of 
Europe is divided up among more than a dozen different 
sovereignties, and this causes trade among its different 
parts to be largely foreign. On the continent of North 
America, on the other hand, it happens that only three 
sovereignties are represented. Of these the United States 
alone controls an area nearly as large as the continent of 
Europe and presenting equally striking diversities of soil 
and climate. Trade among different sections of the United 
States is domestic, and yet the same considerations which, 
for example, cause California to produce oranges, lemons 
and olives for the rest of the country, cause Italy to pro- 
duce the same things for the rest of Europe. < In both in- 
stances trade results from the efforts of men to realize the 
economies connected with a territorial division of labor, 
that is, to devote each particular area to those products for 
which it is best adapted, while securing from other areas, by 
means of exchange, their special products. 

Although foreign and domestic trade are thus controlled 
at bottom by identical principles, economists are in the 
habit of singling out the former for special treatment, 
partly because it is frequently subjected to regulations 
from which the latter is exempt, and partly because back 
of these regulations are differences in race, nationality and 
political ideals which play their part in shaping economic 
conduct. One effect of these differences has already been 

288 



NATURE OF FOREIGN TRADE 289 

noted, that is, the unreadiness of workmen to give up home 
and country for the sake of the higher earnings that may 
be obtained in other places. In consequence of this " im- 
mobility of labor," differences in wages between different 
countries persist generation after generation and play 
their part in shaping foreign trade. Differences in interest 
rates traceable to the immobility of capital, although less 
marked, are not without their influence also. 

The guiding principle which controls foreign trade is 
summed up in the statement that each country produces 
for export those things which it can produce most cheaply, 
and imports in exchange those things which other countries 
can produce most cheaply. In the absence of trade re- 
strictions, the capital and labor force of each country 
tends to be assigned to those branches of production for 
which it has the greatest natural or acquired aptitude. The 
selection is not determined absolutely, but by comparative 
standards. That is, one country may have an absolute 
advantage over other countries for the production of hun- 
dreds of different commodities, but its interest and wage 
rates may be so much higher — in consequence of these very 
advantages — than those of the latter, that it can produce 
more cheaply than they only the score or more of these 
commodities in which its superiority is most pronounced. 
Other countries must find employment for their capital and 
labor also and by submitting to lower interest and wage 
rates will be able to produce some commodities more 
cheaply, even though with greater expenditure of time and 
effort, than the superior country. An illustration of the 
way in which a country may produce for export commodi- 
ties which it cannot produce as easily as the importing 
country is afforded by the trade between the United States 
and Germany. The former imports from the latter cut- 
lery, beet sugar and several other commodities which it 
could produce with less effort than their production in Ger- 
many costs. Such trade is, nevertheless, mutually advan- 



290 THE TARIFF QUESTION 

tageous, because on the side of Germany it permits a utiliza- 
tion of capital and labor which yields larger returns in 
wheat, salt meat and the other goods that are imported 
from the United States than could be secured by the direct 
production of these things, while on the side of the United 
States it enables the country to secure the commodities im- 
ported in exchange for wheat, salt meat, etc., with less ex- 
penditure of effort than would be involved in their produc- 
tion. The situation of a country is not unlike that of an 
individual. It has a limited force of labor and capital to 
employ and secures the largest return by concentrating 
these where they are most effective. Just as it does not 
pay a successful lawyer to do his own typewriting, no 
matter how expert a typewriter he may be, so it does not 
pay a country to do many things it could do more easily 
than its neighbors, because there are other things it can do 
still more easily and that, therefore, pay better. 
v 154. The Tariff Question: Protection vs. Free Trade. 



A 



I — As already stated, most countries subject their foreign 
trade to restrictions from which their domestic trade is 
exempt. These restrictions usually take the form of a 
tariff or taxes on goods as they enter or leave the country. 
When a tariff has for its principal purpose the protection 
of home producers from foreign competition in the home 
market it is called a " protective tariff " and the resulting 
policy is designated " protection." As a preparation for 
discussing the arguments in favor of such a policy we may 
profitably recall the advantages that are claimed for free 
trade. 

As pointed out in the preceding section, the chief pur- 
pose of foreign, as of domestic, trade is to render possible 
the division of labor and the economies resulting from it. 
That this purpose will be most fully realized in connection 
with domestic trade if free exchange is permitted, is gener- 
ally conceded. Under such circumstances each individual 
will tend to devote his labor and capital to that pursuit for 



ARGUMENTS FOR PROTECTION 291 

which he is best fitted and will obtain from other specialists, 
through exchange, the varied products he requires. Ob- 
stacles to free exchange prevent the full realization of this 
division of labor by limiting the market for the products 
of specialists and thus compelling them to produce for 
themselves, or go without, some of the things they might 
otherwise obtain by exchange. But the same reasons that 
make free exchange within a country advantageous may 
be urged in favor of free trade among countries. Polit- 
ical boundaries do not alter the essential facts that trade is 
at bottom an exchange of goods for goods in which both 
parties are gainers, and that the freer the conditions of 
exchange the more highly will the division of labor be 
developed. Differences in the productive capacities of 
different countries fit some to produce some things, others, 
others. If free trade be permitted, each will tend to pro- 
duce only those things for which it is best adapted and to 
rely upon other countries for the other things desired and 
in the production of which the latter have a relative advan- 
tage. The consequence will be a larger joint produce and 
a larger share of wealth for each country than it could 
secure if compelled to produce for itself all of the things 
that its inhabitants require. If restrictions on trade are to 
be approved, it must be because they accomplish results 
that compensate a country for the undoubted losses which 
they entail. ^ 

155. Arguments in Favor of Protection. — The princi- 
pal economic arguments in favor of protection may be dis- 
tinguished as the infant-industry argument, the home- 
market argument, the wages argument and the vested-in- 
terests argument. Of these, the first two were urged in the 
United States as reasons for establishing a protective 
policy ; the last are advanced as reasons for adhering to it 
now that it is established. All merit careful consideration. 

The infant-industry argument is presented in both a 
special and a general form. As it applies to special in- 



292 THE TARIFF QUESTION 

dustries it rests on a recognition of the risks and difficulties 
which attend the domestication of new branches of produc- 
tion. In the successful prosecution of any industry three 
factors co-operate: the requisite natural resources, skilled 
and unskilled workmen of different grades and the appro- 
priate forms of capital. As regards each one of these, 
the country which has practised an industry has a marked 
advantage over the country which has not. The natural 
resources of the latter may be superior, but they are un- 
developed ; its labor force may be ample and adaptable, but 
it is untrained; its people may be competent to use tools 
and machines, but they have no familiarity with the spe- 
cial forms of capital needed. Under such circumstances 
the encouragement of a protective tariff may suffice to in- 
duce investors to establish the new industry when without it 
they would not venture on such a step. After a few years, 
if the industry to be domesticated has been wisely chosen, 
the initial difficulties will have been surmounted and the 
protective duty may be withdrawn without detriment to 
the now vigorous infant. Advocates of such a policy recog- 
nize quite clearly that resort to protection entails a burden 
on consumers. They justify the temporary loss on the 
ground that the establishment of the new industry on a 
permanent footing will afford in the end a more than com- 
pensating gain. 

The infant-industry argument in its general form recog- 
nizes that countries must usually pass through different 
stages of industrial development and advocates protection 
as a means of accelerating progress during periods of 
transition from one stage to another. Thus the policy of 
protecting manufacturing industries generally may be ad- 
vantageous for a country which has been predominantly 
agricultural but which aspires to become a manufacturing 
state. Through it entrepreneurs may be encouraged to 
invest in manufacturing enterprises, farm laborers may be 
trained into efficient factory workers and the natural re- 



)AM» { 



ARGUMENTS FOR PROTECTION 293 

sources of the country necessary to manufacturing indus- 
tries may be developed. Here again protection is defended 
as a temporary expedient for transforming an agricultural 
into a manufacturing country rather than as a permanent 
national policy. Forcible as this first argument is, there- 
fore, as applied to new industries or new countries, it has 
ceased to have any great significance for a country as 
highly developed industrially as is the United States to-day. 
The home-market argument, as advanced by Henry Clay, 
the " father of the American System," is designed to recon- 
cile the interests of the agricultural South and West with 
those of the manufacturing North. It rests upon the 
proposition that the prosperity of the American farmer 
depends upon a regular and constant market for his 
products, and that such a market is to be obtained only 
by building up manufacturing centers within the country. 
When this argument was first used, the experience of the 
years from 1816 to 1820 was cited to prove that the for- 
eign market is not to be depended upon and farmers were 
exhorted to unite with manufacturers to establish a system 
which should bind different sections of the country to- 
gether by furthering the interests of all. To the greater 
stability claimed for the home market later analysis adds 
another merit. The home market calls not only for the 
staple products which will bear ocean transportation, but 
also for all kinds of perishable goods. Substituting it for 
the foreign market renders possible diversified farming and 
enables cultivators to substitute for exhausting, one-crop 
systems of agriculture, rotations of crops which serve to 
preserve and perpetuate the fertile properties of the soil. 
This advantage is believed by protectionists to outweigh the 
admitted losses incidental to the protective policy and to 
insure in the long run a greater degree of prosperity than 
will result from the free play of economic forces. This 
second argument also, from the point of view of the United 
States, is less forcible now than when it was first advanced. 



294 THE TARIFF QUESTION 

Improvements in transportation facilities have largely ob- 
literated the differences between the home and the foreign 
market, and more settled trade policies on the part of 
other countries have made the foreign market more depend- 
able than it used to be. It is not, therefore, of these first 
two arguments that most is now heard, but of the two still 
to be considered. 

156. Protection in the United States since the Civil 
War. — The present stage in the development of the pro- 
tective policy of the United States has been the outgrowth 
of the Civil War. That struggle involved the withdrawal 
from Congress of the representatives of the Southern 
States, who had been the most active opponents of protec- 
tion. Under the guidance of representatives from the 
North successive tariffs were passed carrying the policy to 
the most extreme lengths which the country had known. 
The change in the level of duties caused by the War is 
indicated by the fact that whereas under the Act of 1857 
the highest duties imposed were 24 per cent ad valorem,* 
under the Act of 1864 the average rate of duty on dutiable 
articles was over 47 per cent. During the first fifteen years 
after the close of the war the attention of Congress was 
occupied by questions of reconstruction, the resumption 
of specie payments, etc., and no change of importance 
was made in the tariff except that it became increasingly 
protective as the internal revenue duties were one by one re- 
moved. When attention was again concentrated upon the 
tariff question the protectionists were still in control of 
Congress. The tariffs of 1883 and 1890 were both modi- 
fications in the direction of higher duties. The Act of 
1894 was a reactionary measure, but was so garbled in 
its passage through Congress that the tariff-reform presi- 
dent of the period, Mr. Cleveland, allowed it to become a 

* Ad valorem duties, or duties based on value, are to be contrasted 
with specific duties based on quantity (e. g., so much a pound or a 
bushel). 



HISTORY OF PROTECTION 295 

law without his signature. The victory of the Republicans 
in 1896, although little related to the tariff issue, involved 
as an incident a return to a highly protective policy. In 
fact the Dingley Act of 1897 marks the extreme limit to 
which that policy has been carried in the United States. 
During this last period the wages argument and the 
vested interests argument have played an important role. 
Before protection became the established policy of the coun- 
try, one of the reasons urged in its favor was that, since 
wages were higher in the United States than abroad, some 
special encouragement was necessary to the introduction of 
new industries to enable employers to compete with the low- 
wage labor of Europe. After protection became a settled 
fact, by an interesting inversion, it began to be given credit 
for the high wages of American labor. The wages argu- 
ment runs as follows : In protected industries higher wages 
are paid in the United States than in similar industries 
abroad. Protection, therefore, causes high wages, and its 
withdrawal must tend to pauperize American labor. This 
overlooks certain important considerations. First, equally 
high wages are paid in unprotected as in protected in- 
dustries, and the former, which in the United States include 
farming, mining, transportation and many branches of 
manufacturing, vastly exceed the latter in importance and 
magnitude. Second, employers, whether protected or un- 
protected, desire to secure their labor as cheaply as they 
can and there is nothing in a protective tariff which forces 
them to pay higher wages than are current in the com- 
munity in which the protected industries are located. In 
other words, employers in protected industries pay the 
wages they must to get the labor they require, and these 
depend not upon the protective tariff, but upon general 
industrial conditions. Third, it is not true that high 
wages and protection always go together. For example, 
wages in protectionist Germany are lower than in free- 
trade England. For these reasons the wages argument, 



296 THE TARIFF QUESTION 

although effective for campaign purposes, has never en- 
joyed much repute among trained economists. 

Side by side with the wages argument, with its appeal to 
the " labor vote," is urged the vested-interests argument, 
which appeals especially to conservative owners of prop- 
erty. This emphasizes the loss of capital that must result 
if the protection that certain industries enjoy be withdrawn 
and these industries be exposed to the full force of foreign 
competition. That some capital would be lost in the process 
of readjustment to free trade conditions cannot be denied. 
It would seem more rational, however, to advance this as a 
reason for making the transition from protection to free 
trade gradual rather than as a reason for the indefinite 
continuance of protection — unless convincing independent 
arguments can be given for that policy. 

Quite as influential as the economic arguments in favor 
of protection that have been reviewed, has been the ambition 
of American statesmen to cement the bonds which unite 
different sections of the country by means of a tariff which 
should make them mutually dependent and at the same 
time independent of Europe. This was to be accomplished 
by developing the division of labor to the highest point 
within the country, without giving any encouragement to 
the international division of labor upon which foreign trade 
rests. Horace Greeley, the influential editor of the New 
York Tribune, expressed this view of protection with his 
usual clearness in the following declaration : " If I had my 
way I would put a duty of $100 a ton on pig iron, and a 
proportionate duty on everything else that can be pro- 
duced in America. The result would be that our people 
would be obliged to supply their own wants, manufactures 
would spring up, competition would finally reduce prices 
and we would live wholly within ourselves." From this 
point of view the chief function of protection is to serve as 
a Chinese wall to preserve the United States from the con- 
tamination of foreign influences. Uneconomic as such an 



THE TARIFF OF 1897 297 

ideal must appear, it cannot be doubted that it makes a 
strong appeal to many patriotic citizens. But for it 
tariff controversies in the United States would have had 
little of the moral earnestness which has characterized them 
whenever protection has been the issue. 

157. The Tariff of 1897 — A brief description of the 
tariff of 1897, still (1908) in force in the United 
States, will serve to emphasize one argument against 
protection — that is, its complexity. The act in which this 
tariff is embodied covers seventy octavo pages and enumer- 
ates upwards of 3500 different articles of which some 350 
are admitted into the country free of duty and the re- 
mainder are subject to taxation. There are fourteen dif- 
ferent schedules (lettered "A" to " N ") under which 
dutiable articles are classified. Schedule " K," embracing 
" wool and manufactures of wool," is fairly typical. In it 
wool is divided into three elaborately distinguished classes 
to each of which a special duty is applied. Wools of classes 
one and two are taxed eleven and twelve cents a pound 
respectively. Wool of class three, worth less than twelve 
cents a pound, is taxed four cents and, worth more, seven 
cents a pound. The rate of taxation on the cheaper grades, 
worth from six cents to twenty-one cents a pound, is thus 
from 33 1-3 per cent to 66 2-3 per cent. These duties are 
intended, of course, to protect farmers and ranchers en- 
gaged in the production of wool. To protect manufac- 
turers of woolen goods it is necessary to compensate them 
for the higher prices they have to pay for protected wool 
as well as to protect them against foreign manufacturers. 
The tariff accomplishes this object by subjecting woolen 
goods to both a specific and an ad valorem duty. For ex- 
ample woolen yarn, if made of wool worth less than thirty 
cents a pound, pays a specific duty on each pound equal to 
two and one-half times, and, if of wool worth more, to three 
and one-half times the per pound duty on wool of the first 
class, and in addition an ad valorem duty equal to 40 per 



298 THE TARIFF QUESTION 

cent. Similar mixed duties apply to woolen cloths of all 
kinds, with the consequence that the tax on consumers of 
imported woolen goods is very heavy. According to the 
returns of the custom office for the year 1907 the average 
rate of duty on wool imported during that year was 41 
per cent and the average rate on the manufactures of wool 
89 per cent. The rates on other textiles, the raw materials 
of which do not require protection, are of course less ex- 
treme, but the returns indicate that the average rate on 
imported cotton and silk goods during the same year was 
53 per cent. 

The above duties on textile goods are among the highest 
protective duties on the list but the general average on all 
dutiable articles was 43 per cent in the year referred to, so 
the duties cited give no exaggerated picture of the burden 
of taxation which results from the protective system. Nor is 
the burden adequately represented by the statement that con- 
sumers of imported commodities which compete with Ameri- 
can products must pay in addition to the freight charges, 
on the average 43 per cent more than such products are 
worth abroad. Much heavier is the burden which results 
from the exclusion of foreign products and the enhance- 
ment of the prices of American goods. The higher prices 
that consumers must pay for protected goods in order that 
they may be produced at home afford no revenue to the 
Government, although they add so largely to the expense 
of living in the United States. 

Space will not permit a description of other features of 
the tariff. The complexity of the wool schedule is matched 
in the schedules applying to the metals, to wood and manu- 
factures of wood, to silk goods, etc. To master fully any 
one of these schedules and determine what rates of duty 
would afford adequate protection without unduly burden- 
ing consumers would require months of study of the indus- 
tries affected, both at home and abroad. To master fully 
all of them, with the three thousand odd different articles 



THE PRESENT STATUS 299 

to which they refer, is a task beyond human capacity. 
Needless to say, Congress in drafting tariff bills makes no 
such ambitious attempt. Instead, it contents itself with tak- 
ing the testimony of interested persons as to the amount of 
protection their businesses require, and accepts their state- 
ments as its guide in apportioning protection to different 
industries. The bill so prepared by the Committee of Ways 
and Means in the House of Representatives is submitted to 
a running fire of criticism and amendment in both Houses, 
and when finally passed is such a hodge-podge of com- 
promises that even the most earnest advocates of protection 
are usually forced to express regret that a better measure 
could not be secured. The complexity of a protective 
tariff, with its thousands of items and its confusing medley 
of ad valorem and specific duties, applying often to the 
same commodities, is in striking contrast with a tariff for 
revenue only like that of the United Kingdom. The latter 
contains but a few items, and since it serves no special in- 
terest, except that of the Government, may be drawn up in 
a simple and business-like way. Its financial results can be 
foretold with a high degree of precision, and its capacity 
to yield revenue is as great as that of the more burdensome 
protective tariff since it confines itself to articles that are 
widely consumed. . 

158. Present Status of the Tariff Question in the 
United States. — Arguments in favor of protection should 
be carefully weighed against the general argument in favor 
of free trade, not as abstract propositions, but with refer- 
ence to the concrete circumstances of each particular coun- 
try. The result of such a procedure applied to the present 
industrial situation of the United States is, in the opinion 
of the author, decidedly unfavorable to the claims of pro- 
tectionists. National economic independence, the first and 
perhaps the strongest reason urged in support of protec- 
tion, has long since been achieved and would not be endan- 
gered in the slightest degree by a change of trade policy. 



300 THE TARIFF QUESTION 

The infant-industry argument in its special form is now 
applicable to but few American industries, while in its gen- 
eral form it has certainly been outgrown by a country 
whose manufactured products already compete successfully 
for a share of the foreign market. The home-market argu- 
ment has little application to the present situation, when 
such a large proportion of the staple products of the coun- 
try seek the foreign consumer in defiance of the tariff and 
when the consequence of the latter is too often tariff retali- 
ation on the part of other countries much more unsettling 
in its effects than fluctuations in foreign demand, inde- 
pendent of hostile tariffs, could possibly be. The wages 
argument inverts the true relation between protection and 
high wages. High wages are due, as explained in a previ- 
ous chapter, to the high productiveness of labor, due, in 
turn, to the superior natural resources of a country, its 
abundant and efficient equipment of capital goods and the 
capacity of its entrepreneurs and wage-earners. It is 
because of high wages that protection is necessary to the 
maintenance of certain industries in the United States. 
Without it goods now produced in the country would be im- 
ported and paid for by increased production in those lines 
of industry which need no protection. Since labor and 
capital are more productive in unprotected than in pro- 
tected industries, the withdrawal of protection and the 
concentration of labor and capital in the former might be 
expected, time being allowed for the necessary readjust- 
ment, not to lower wages, but to raise them. Certainly 
more wealth would be produced under the new arrangement, 
and labor's chance of getting a larger share would seem as 
good as that of any other factor in production. Thus 
instead of raising wages, protection serves on the whole to 
lower them and is itself necessary because wages were al- 
ready high before it was introduced. Finally, the vested- 
interests argument is of weight as a plea against a too 
hasty reduction of duties upon which important industries 



THE FUTURE 301 

have come to depend, but cannot justify the indefinite con- 
tinuance of such duties if they no longer serve the best 
interests of the whole country. The case for protection 
thus appears on every count to be decidedly weak in com- 
parison with the case for free trade. If the issue were to 
be decided solely on grounds of economic reasoning, it is 
believed that the policy of protection would be quickly 
abandoned. 

The present strength of protection in the United States 
rests, however, less on reasoning than on sentiment and 
experience. The all-important fact that cannot be argued 
out of the mind of the practical business man is that protec- 
tion has been the policy of the country during a period 
of remarkable industrial prosperity. That this prosperity 
has been due to other causes he will not believe, or at any 
rate he prefers to " let well enough alone," and to refrain 
from disturbing a system which may have had something to 
do with the country's undoubted progress. Under these 
circumstances the policy of protection is likely to be ad- 
hered to so long as prosperity continues, or until those 
whose interests would be directly furthered by free trade 
organize as effectively to oppose protection as interested 
manufacturers are already organized to maintain it. 

159. The Future Tariff Policy of the United States. — 
According to the general argument for free trade, it is the 
consuming public, which has to pay higher prices for pro- 
tected goods, that is most injured by protection. But the 
consuming public constitutes no definite class and its or- 
ganization as a party of opposition is highly improbable. 
At certain points, however, the protective tariff of the 
United States is already subject to vigorous attack by par- 
ticular consumers. One of these is where it acts as a shield 
for the combinations of manufacturers or trusts discussed 
in Chapter XXII. Indications are not lacking that the 
first breaches in the American tariff wall will be through 
lowered duties on trust-made goods. 



302 THE TARIFF QUESTION 

Another aspect of protection that is beginning to re- 
ceive merited condemnation is its tendency to hasten the 
destruction of limited natural resources. In the United 
States important branches of mining, such as coal and 
iron, are protected, in utter disregard of the fact that this 
forces the country to use up its own limited supplies of these 
indispensable materials when it might, in the absence of the 
tariff, secure at least a part of what it needs from neighbor- 
ing countries. Protection is also extended to the lumber 
industry, although it is notorious that the destruction of 
American forests is progressing at a rate that threatens 
grave injury even to the present generation. It seems too 
clear for argument that wise national policy demands the 
conservation rather than the destruction of limited natural 
resources such as those mentioned. When the revision of 
the present tariff, to which the Republican party is com- 
mitted by its platform (1908), is undertaken, this aspect 
of the subject is sure to be impressed upon Congress, and 
there is reason to hope that these most objectionable pro- 
tective duties may be repealed. 

Somewhat less direct than the burden protection imposes 
on consumers is the injury which it does to producers for 
the foreign market. They suffer in both a general and a 
special way. In general, protection, by curtailing im- 
ports, curtails the foreign demand for native products, or 
exports. This must be the case, for in the long run im- 
ports and exports pay for each other. A country which 
will not take the products of other countries cannot sell to 
them. For a short time they may pay in specie for what 
they cannot pay in goods, but as pointed out in the 
last chapter (Section 144), the exportation of gold must 
soon be checked automatically by changes in interest rates 
and price levels. Thus the policy of excluding foreign 
goods from the home market in order that home industries 
may develop to satisfy its needs, is, from the point of view 
of producers for export, a policy of repression rather than 



THE FUTURE 30\ 

of protection. To the same extent that the home market* 
is wrested from foreigners and given to protected home 
producers, the foreign market is wrested from unprotected 
home producers. The latter have good reason for com- 
plaining that discrimination in favor of industries which 
need protection is discrimination against them. Until 
recently, the industries in the United States which pro- 
duced for export have been the great extractive industries. 
Now that manufacturers also are beginning to look to 
the foreign market for their customers, this adverse 
side of protection, to which they have been conveniently 
blind in the past, is likely to receive its proper share of 
consideration. 

The special grievance which producers for export urge 
against protection is that it antagonizes foreign govern- 
ments and leads to retaliatory measures. Protection is a 
game at which two can play and which loses much of its 
interest when participated in too widely. The United 
States has already been the object of tariff retaliation on 
the part of Germany and Russia, and if the temper evinced 
by the foreign press is any criterion, its troubles from this 
source are only just beginning. 

In addition to these economic considerations favorable to 
tariff reform, there are equally cogent political considera- 
tions. The protective tariff of the United States has 
been the principal source of that pernicious alliance between 
business and politics which threatens the very life of our 
democratic institutions. So long as the government pro- 
tects special industries it is inevitable that those who are 
financially interested in these industries should attempt to 
frame party platforms, select candidates and control legis- 
lation for their own private benefit. As this simple truth 
comes to be appreciated by all classes of citizens, many in- 
fluential persons who have remained indifferent to the eco- 
nomic aspects of the tariff question are certain to become 
ardent tariff reformers. 



304 THE TARIFF QUESTION 

The future of protection in the United States is uncer- 
tain, as must be the future of any political policy, but in- 
dications are not lacking that the trend of events is away 
from, rather than toward, trade restrictions. Protection, 
as the term implies, is a policy for the weak rather than 
for the strong. As the United States becomes conscious 
of its industrial strength it is likely to tear down its pro- 
tective barriers and enter the field of free international 
competition in the same confident spirit as did the United 
Kingdom half a century ago. 



REFERENCES FOR COLLATERAL READING 

* Bastable, The Theory of International Trade; Fawcett, Free 
Trade and Protection; Sumner, Lectures on the History of Protec- 
tionism in the United States; * Patten, The Economic Basis of Pro- 
tection; Thompson, Protection of Home Industry; * Taussig, Tariff 
History of the United States and State Papers and Speeches on the 
Tariff; Stanwood, American Tariff Controversies in the Nineteenth 
Century. 



CHAPTER XVIII 
THE LABOR MOVEMENT 

1 60. The Disadvantages of Wage-earners as Bar- 
gainers. — The treatment of wages in the chapters on Dis- 
tribution was open to the charge of being unduly abstract. 
The assumption that competition has free play among 
workmen and employers involves a disregard of palpable 
facts and must, for many readers, have weakened the force 
of the conclusion that under such circumstances workmen 
of the same grades of capacity tend to secure the same 
rates of wages in each labor market and that in general 
these rates tend to be the shares of the joint product that 
are economically imputable to labor as distinguished from 
the other factors in production. We must now give full 
weight to the undoubted fact that competition in the labor 
markets of the world is not free and all-sided, as assumed, 
but obstructed in various ways, and consider how this 
modifies our conclusions in reference to the relation be- 
tween work and pay. 

The wages contract is a bargain, and when it fails to 
secure for labor its competitive share of the product the 
cause must be sought in the unequal bargaining ability of 
workmen and their employers. The principal disadvan- 
tages under which workmen are placed are: First, that 
their labor resembles a perishable commodity in that it 
must be sold each day if they are not to incur loss. This 
circumstance forces them at times to accept wages that 
are below their normal earning capacity, but less often 
than many writers represent. The typical workman, it 
should be remembered, is not the unemployed seeker after 

305 



506 THE LABOR MOVEMENT 

a job, whose unfortunate plight is so often pictured, but 
the man already employed, who is looking for a better 
position. Unemployment often forces workmen to make 
bad bargains, but even bad bargains may put them in a 
position to make better terms with their next employers. 
Only when unemployment continues so long as to break the 
spirit and lessen the efficiency of a workman is it likely 
to cause a permanent lowering of his earning capacity. 
A second disadvantage results from the superior knowl- 
edge which employers usually have of the conditions that 
influence the wages contract. More intelligent, as a rule, 
and able from their position to take a broader survey of 
the labor market, employers can often persuade workmen 
to accept terms much worse than free, all-sided compe- 
tition would secure for them. A third disadvantage re- 
sults from the actual or tacit understandings which often 
restrain employers from competing freely for employees 
by advancing wages. There is a strong reluctance on the 
part of employers to " spoil the labor market," and even 
when they are not combined in employers' associations, as 
often happens, this serves to make them conservative in 
reference to wages. 

The tendency of the above disadvantages is to render 
workmen inferior to employers as bargainers and to cause 
them to accept less than their fair share of the products 
they help to produce. This, it must be clearly under- 
stood, is only a tendency. Any disparity between current 
rates of wages and the value of the product which labor 
is able to produce affords an inducement to employers to 
secure more hands. Ordinarily this motive is strong 
enough to overcome the reluctance which employers feel to 
bidding up wages, and ordinarily competition among them 
is sufficiently active to maintain wages even when the ig- 
norance and inertia of workmen might lead them to accept 
less than market conditions call for. Only in cases in 
which the isolated workman, who is temporarily out of 






NATURE OF LABOR MOVEMENT 807 

employment, bargains with the unscrupulous employer is 
full advantage likely to be taken of the former's weakness. 
As a protection against this situation workmen have 
devised and perfected labor associations or " trade 
unions." 

161. Nature of the Labor Movement. — The labor 
movement is the term applied to the spontaneous efforts 
of wage-earners to better their condition through labor 
organizations. Starting in its modern form in England 
early in the nineteenth century, it has spread to every 
country which has introduced the factory system and 
advanced with increasing momentum until it is one of 
the most significant features of the present industrial 
situation. 

The purpose of labor organizations, or trade unions, is, 
in general terms, to advance the interests of the workmen 
who form them. To accomplish this they choose officers 
(usually a president, vice-president, secretary, treasurer 
and members of a standing council or executive commit- 
tee), accumulate funds, administer mutual insurance or 
benefit features, bargain with employers in reference to 
wages, hours and other conditions of employment, organ- 
ize and carry through strikes and boycotts, collect and dis- 
seminate information in reference to labor conditions and 
agitate for legislation designed to promote the interests 
of labor. Beginning as local organizations, trade unions 
have now progressed in the United Kingdom and the 
United States until they include federations of unions of 
various kinds and designed to serve various purposes. In 
all well-organized trades the local branches are combined 
or " amalgamated " into national organizations. In 
cities, local unions are usually organized further into 
" trade councils," or " united labor leagues." Related 
trades, as, for example, the building trades, are frequently 
federated also in each locality into organizations like the 
" United Building Trades Council," designed to assist in- 



308 THE LABOR MOVEMENT 

dividual unions to accomplish their purposes when these 
are not deemed at variance with the interests of the whole 
body. Finally, in the United States, a large proportion 
of the organizations, both local and national, are mem- 
bers of the American Federation of Labor, which stands 
for the general interests of organized labor. 

Exact statistics of the membership of American labor 
organizations are not available, but it is certainly within 
the truth to say that over 15 per cent of the 10,000,000 
odd men returned by the census of 1900 as employed in 
trade, transportation and manufacturing and mechani- 
cal pursuits were members of unions. Of these nearly 
1,000,000 were associated with the American Federation 
of Labor in 1900 and since that time the Federation has 
claimed a membership of over 2,000,000. The member- 
ship of the British trade unions is relatively larger, being 
returned as 1,905,000 on December 31, 1900. This is due 
partly to the fact that labor is there more fully organized 
and partly to the greater preponderance of wage-earners 
in the population. 

162. The Development of Trade-Union Law in the 
United Kingdom. — The development of trade unions to 
their present position of power and influence in the United 
Kingdom and the United States constitutes an interesting 
history. In the United Kingdom at the beginning of the 
nineteenth century labor organizations were criminal con- 
spiracies under both common and statute law. The stat- 
utes expressly prohibiting them were repealed in 1824-25, 
but it was not until the early seventies that they acquired 
an assured legal position. It was long believed that under 
the Trade Union Acts then passed (1871 and 1876) they 
were not liable to suits for damages for the tortious acts 
of their officers or members. This view was declared 
erroneous by the highest British court in the famous 
Taff Vale decision rendered in 1901, in consequence of 
which damages and costs to the extent of nearly £50,000 



TRADE-UNION LAW 309 

were assessed against one of the railroad brotherhoods. 
This decision led to active efforts on the part of trade 
unionists to have labor organizations expressly exempted 
by act of Parliament from liability to suits for damages. 
In the general election of 1906 as many as fifty-seven labor 
representatives were returned to Parliament and, largely 
as a result of their agitation, a Trades Disputes Act was 
passed in the same year which relieved organizations of 
both employers and employees from liability to suits for 
damages for acts committed in connection with trade dis- 
putes. As the Conspiracy and Protection of Property 
Act of 1875 had already declared that no act in connec- 
tion with a trade dispute which was not criminal if com- 
mitted by an individual should be actionable as a con- 
spiracy because committed by two or more persons acting 
in combination, trade unions now enjoy a higher degree 
of freedom from legal restraint in the United Kingdom 
than in any other country. 

163. The Law in Reference to Labor Organizations 
in the United States. — The development of labor organ- 
izations in the United States has not been checked to any 
appreciable extent by legal restrictions. Strikes for the 
purpose of advancing wages or shortening hours have 
rarely been held to be illegal, and in many of the States 
they are expressly authorized by statute. In fact, the 
attitude of State legislatures has been uniformly favor- 
able to labor organizations, some of them even going to 
the length of prohibiting employers from discharging 
employees on the ground that they are members of such 
bodies. Strikes for other purposes, as, for example, to 
compel an employer to reinstate a discharged employee or 
to discharge an employee who is not a member of the 
union, have sometimes been condemned as conspiracies. 
The opposition of the courts in such cases has been based 
not on hostility to labor organizations as such, but on a 
desire to uphold the rights of persons who are not mem- 



310 THE LABOR MOVEMENT 

bers of them. Thus the Court of Appeals of New York 
State, in branding as a conspiracy the effort of a union 
to secure the discharge of a non-union man, used the fol- 
lowing language : " Public policy and the interests of so- 
ciety favor the utmost freedom in the citizen to pursue 
his lawful trade or calling, and if the purpose of an organ- 
ization or combination of workingmen be to hamper or 
restrict that freedom, and through contracts or arrange- 
ments with employers to coerce other workingmen to be- 
come members of the organization and to come under its 
rules and conditions, under the penalty of loss of their 
position and of deprivation of employment, then that pur- 
pose seems clearly unlawful and militates against the 
spirit of our Government and the nature of its institu- 
tions." This decision is cited because a few years later 
the same court, looking at the same question more from 
the point of view of trade unions, decided that a strike for 
a similar purpose was lawful, on the ground that the 
object sought was not the injury of the non-union em- 
ployee, but the preservation of the union.* This reversal 
of opinion illustrates fairly well the difficulties which 
American courts encounter in their efforts to apply the 
common law of conspiracy to labor cases and explains why 
they arrive at such diverse conclusions as are shown by 
the authoritative decisions of the courts of the different 
States. It would be a great gain if the whole question of 
the nature of conspiracy in connection with trade dis- 
putes could be clearly defined by statute in the United 
States as it has been in the United Kingdom. 

Until quite recently the view that unincorporated labor 
organizations were not liable to be sued for damages was 
held in the United States as in the United Kingdom, but 
the English decision cited has already been quoted with 
approval by American courts, and several cases are now 

* These decisions are: Curran vs. Gallen, 152 N. Y. 33 (1897), and 
National Protective Association vs. Cummings, 170 N. Y. 315 (1902). 



COLLECTIVE BARGAINING 311 

on record in which labor organizations as such have been 
sued and verdicts against them awarded. Whether these 
verdicts will lead to successful agitation by trade union- 
ists to have the American law altered as the British law 
has been by the new Trades Disputes Act remains to be 
seen. It seems very clear to the writer, however, that 
labor organizations, like other combinations, should be 
subject to some sort of legal control. If relieved from 
financial responsibility — and much may be said in favor 
of this plan — they should be made subject to adminis- 
trative supervision and regulation as proposed in a later 
section (Section 172). 

164. Collective Bargaining. — Intelligent unionists rely 
chiefly upon collective, as distinguished from individual, 
bargaining to secure the advances in wages and the short- 
ening of hours for which they are always striving. Rec- 
ognizing the weakness in bargaining power of the isolated 
workman, they advocate trade unions as a means of re- 
straining reckless competition for employment and of se- 
curing for all concerned standard rates of wages which 
shall equal approximately what each given grade of labor 
is worth to employers. Where employers accept the plan, 
wage scales are agreed upon by conference between their 
representatives and representatives of the union, to remain 
in force usually for a year, and the principal task of union 
officials during the intervals between bargaining periods is 
to maintain the integrity of their unions, add to their mem- 
bership if possible and see that agreements in reference to 
wages and hours are lived up to. In the United States 
this stage of development has been reached in only a few 
trades. In most of them employers still insist upon the 
older method of fixing wages and the unions are forced to 
carry on a struggle for their very existence. 

The objections which employers make to collective bar- 
gaining are various. Many of them insist that they must 
be permitted to manage their businesses in their own way 



312 THE LABOR MOVEMENT 

and that, while they are always ready to treat with their 
own employees, they will have nothing to do with " walking 
delegates " or other trade-union officials who try to run 
their business for them. The trade-union reply to this 
contention is that wages and hours are as much the busi- 
ness of the employee as of the employer, and if workmen 
prefer to leave their determination to trained representa- 
tives they have as good a right to do so as have employers 
to hire special agents to treat with the men they employ. 
Other objections are that the demands of trade-union of- 
ficials become more and more unreasonable with every 
concession that is made to them, and that even after a col- 
lective bargain has been struck the employer has no guar- 
antee that it will be adhered to by his employees, who may 
repudiate their own representatives. Unionists reply that 
while there are all kinds of officials among trade unions, 
as among other associations, the acceptance by employers 
of the principle of collective bargaining is a sure way of 
bringing to the front labor leaders of a conciliatory and 
pacific disposition. They point to the undoubted fact that 
in those trades where collective bargaining has been longest 
practised there is the least dissatisfaction with it on the 
part of employers. The likelihood that collective bar- 
gains, formally entered into, will not be adhered to by 
employees is, in the opinion of the unionists, too slight to 
deserve serious consideration. Only in cases in which the 
system is backed by a weak union, or so recently adopted 
as not to be understood by the workmen concerned, is this 
a real danger. Finally, employers object to the standard 
wage on the ground that it is a device for securing a 
given rate of pay irrespective of the amount or quality 
of the work done. They complain that as soon as a stand- 
ard wage is agreed upon employees begin to devise 
means of scamping their work, partly to spare themselves 
effort and partly in the belief that by doing less work 
themselves they will provide employment for others, who 



COLLECTIVE BARGAINING 313 

must, without it, either be idle or work for less than the 
standard wages. This is, doubtless, the most serious ob- 
jection to the standard wage, but trade unionists have 
much to urge on the other side. They insist, first, that 
the objection can apply only to time wages and that, as 
a matter of fact, piece wages are often the object of 
collective bargaining; second, that the standard wage is 
only a minimum wage and that there is nothing to pre- 
vent the employer from declining to hire men whose work 
is not worth so much to him, nor from paying higher 
wages to men whose work is worth more ; finally, that under 
the competitive wage system employers tend to drive their 
men so hard that they become prematurely old, and that 
employees are, therefore, justified in using the power that 
association gives them to moderate somewhat the intensity 
of their daily efforts. 

It is very difficult to strike a balance between these op- 
posing arguments. There is, undoubtedly, a widespread 
notion among workmen that there is a certain amount of 
work to be done in the world and that unemployment is 
due to the fact that this work will not go around so long 
as those employed continue to labor with the same inten- 
sity. It is hardly necessary at this stage to insist that 
this view that men may make work for others by doing less 
themselves is entirely fallacious. The amount of work 
that is to be done depends upon the demand there is for 
goods of different kinds, and this demand comes itself from 
goods. If in every department of industry the produc- 
tiveness of labor should be reduced by ten per cent the de- 
mand for labor would necessarily decrease in the same 
proportion. The same conclusion may be inferred from 
the theory of wages that has been explained. Under freely 
competitive conditions they are the equivalent of what 
labor produces, and if workmen deliberately reduce their 
productiveness their wages must be reduced proportion- 
ately. There is no fund other than what workmen pro- 



314 THE LABOR MOVEMENT 

duce out of which wages can or will for any length of time 
be paid. The make-work argument for curtailing the 
output of each man's toil is thus without foundation, and 
the policy can only react to the disadvantage of the whole 
wage-earning class. On the other hand, there is un- 
doubted truth in the assertion that employers often desire 
workmen to labor with an intensity that wears them out 
in a few years, and that their best interests and the inter- 
ests of society demand that they should work with more 
moderation. When this is the real purpose of trade 
unions in curtailing the output of each man's labor, the 
policy is justified, even though it may involve in the long 
run a proportional lessening of wages. Smaller daily 
earnings spread out over a greater number of active and 
efficient working years are better from every point of view 
than higher wages secured at the cost of health and 
vitality. 

165. Strikes and Lockouts. — When employers decline 
to enter into collective bargains, or when the representa- 
tives of a trade union cannot come to terms with repre- 
sentatives of an employer, a strike or lockout is apt to be 
the result. The former is a general cessation of work 
on the initiative of the workmen ; the latter a similar stop- 
page brought about by employers. Strikes and lockouts 
seem at first thought the logical accompaniments of col- 
lective bargaining. When a single workman cannot se- 
cure the wages or hours he thinks he ought to have he 
declines to accept employment. Similarly, an employer 
refuses to employ on terms that are not agreeable to him. 
Strikes and lockouts appear to be similar phenomena trans- 
ferred to the larger stage of collective bargaining. 
There is, however, a vital difference in the two cases. 
When a workman declines employment or an employer 
refuses to employ, it is usually with the expectation of 
making better terms with someone else. This alternative 
is not usually presented in the case of strikes or lockouts. 



STRIKES AND LOCKOUTS 315 

The cessation of work which they cause is complete until 
one side or the other gives in, when work is resumed by 
substantially the same men under the same employer. 
Strikes and lockouts thus mean, while they last, idleness 
and loss of earnings, with all of their demoralizing con- 
sequences, for workmen ; idle capital, depreciation of plant 
and loss of business for employers, and curtailed produc- 
tion of goods and resulting loss in want gratification for 
the community. Even if they are not accompanied, as is 
so frequently the case, by acts of violence and lawlessness, 
they are the cause of loss and waste on a scale that makes 
them a serious obstacle to prosperity. A significant illus- 
tration of the costliness of strikes is afforded by the Report 
of the Commission on the Anthracite Coal Strike of 1902. 
This estimates that this one strike, which lasted from May 
until October, involved a loss in receipts to the coal-mining 
companies of $46,100,000, of which some $25,000,000 
would have been paid out in wages had work been con- 
tinued, and a loss in freights to the coal-carrying rail- 
roads of $28,000,000. The inconvenience and actual 
suffering to which the public was put by the resulting 
shortage in coal cannot be measured in money, but it was 
certainly as serious as the other losses combined. 

The anthracite-coal strike illustrated also the evils 
of violence and lawlessness which frequently accompany 
strikes. In the language of the Commission referred to: 
" Its history [was] stained with a record of riot and 
bloodshed, culminating in three murders, unprovoked save 
by the fact that two of the victims were asserting their 
right to work, and another, as an officer of the law, was 
performing his duty, in attempting to preserve the peace. 
Men who chose to be employed, or who remained at work, 
were assailed and threatened, and they and their families 
terrorized and intimidated. In several instances the 
houses of such workmen were dynamited, or otherwise as- 
saulted, and the lives of unoffending women and children 



316 THE LABOR MOVEMENT 

put in jeopardy." Nor were violence and intimidation the 
only means resorted to by the strikers and those who 
sympathized with them to prevent others from remaining 
at work. Free use was made of the " boycott," which 
the Commission defines as " a form of coercion by which 
a combination of many persons seek to work their will upon 
a single person, or upon a few persons, by compelling 
others to abstain from social or beneficial business inter- 
course with such person or persons." 

The violence, intimidation and boycotting which accom- 
panied the anthracite strike, differed only in degree from 
what is to be expected in connection with every serious 
labor disturbance and constitute a strong argument 
against the strikes and lockouts which incite them. They 
are especially apt to occur, for, as the Anthracite Strike 
Commission pointed out, " there can be no doubt that with- 
out threats, intimidation and violence toward those who 
would otherwise be willing to remain at work, or take the 
places of those who had ceased to work, the coercion of em- 
ployers, which a strike always contemplates, would be less 
potent in compelling acquiescence in its demands." Such 
acts are, of course, illegal, but in self-governing communi- 
ties it becomes very difficult to enforce the law when the 
sympathies of the majority are on the side of those who dis- 
regard it. Over and over again in the United States it 
has proved necessary to call out the militia to prevent riot 
and bloodshed in connection with strikes which have passed 
beyond the control of the civil authorities. 

1 66. Plans for Avoiding Strikes. — Among the plans for 
rendering strikes and lockouts unnecessary, three different 
types may be distinguished : ( 1 ) those which rely on agree- 
ments between employers and employees to submit dif- 
ferences to boards of arbitration created by themselves ; 
(2) those which rely upon the submission of disputes to 
State boards of conciliation and arbitration and the vol- 
untary acceptance of the awards of the latter; (3) those 



PLANS FOR AVOIDING STRIKES 317 

which rely upon compulsory arbitration through State 
boards or courts. 

Trade agreements providing for arbitration when col- 
lective bargaining fails of its purpose are already com- 
mon in Great Britain and to a less extent in the United 
States. After a protracted strike or lockout both em- 
ployers and employees usually recognize the desirability 
of some arrangement that will preclude similar disturb- 
ances in the future and out of this feeling some plan for 
arbitrating differences is very apt to develop. Such plans 
are highly beneficial so long as they accomplish their pur- 
pose, but experience seems to indicate that they can only 
deal with minor differences between employers and em- 
ployees. When important issues arise on which the views of 
the two are diametrically opposed, the compromise which 
is suggested by a board of arbitration may be acceptable 
to neither. In such cases both may prefer to fight it out 
in the old way. 

Experience with the failure of trade agreements to 
supersede strikes and lockouts has led most countries to 
provide public boards of conciliation and arbitration. 
These may be purely voluntary bodies dependent upon the 
invitation of one or both of the parties to the trade dis- 
pute for power to take any part in it, or independent to 
the extent that they may investigate the causes of a dis- 
pute and decide as to its merits, although unable to compel 
the parties concerned to accept the decision or refrain 
from fighting it out in their own way if they prefer. The 
first type of board was that first tried in the United States, 
and it was soon made clear that in a great majority of 
cases neither party to an industrial dispute cares to submit 
it to arbitration before it has passed beyond the point 
where a peaceful settlement can be effected. This con- 
viction has led to the creation in the United Kingdom and 
in several of the States of the United States of boards of 
conciliation and arbitration which have power to investi- 



318 THE LABOR MOVEMENT 

gate the causes of industrial disputes on their own initia- 
tive. There seems reason to think that much more mi^ht 
be done along this line in the United States. In a great 
majority of cases the outcome of a labor dispute is deter- 
mined by the view which the public takes of the points at 
issue. This is because neither side is strong enough to 
hold out against the other plus the public. The great 
difficulty is that without some means of enlightenment the 
public can become acquainted with the grounds for a labor 
dispute only after it has gone too far for peaceful settle- 
ment. A State board of conciliation and arbitration 
with power to intervene on the instant that it learns of a 
labor dispute may at times succeed in effecting a settle- 
ment by simply bringing the parties together and sug- 
gesting possible bases of agreement, at the same time that 
it removes misunderstandings and assuages wounded feel- 
ings. Failing in this it may, by making public its find- 
ings in the case and indicating clearly the settlement which 
appears to it fair, bring such pressure to bear upon the 
less conciliatory disputant that a compromise will seem 
better than a fight and a prolonged strike or lockout will 
be avoided. Thus, although without power to enforce its 
award, a State board of conciliation and arbitration may 
often prevent strikes and lockouts. 

167. Compulsory Arbitration. — In the United States, 
notwithstanding the disregard of the public interest so 
characteristic of both employers and employees during the 
progress of industrial disputes, there is as yet little de- 
mand for any more radical remedy than compulsory inves- 
tigation. Nevertheless the experiments that are being 
tried in Australasia with " compulsory arbitration " de- 
serve to be watched with attention. The same forces that 
have led all countries to put a stop to civil strife and 
insist that citizens who cannot agree shall bring their 
troubles into court rather than fight over them, may in 
time cause the adoption of a similar policy in reference to 



COMPULSORY ARBITRATION 319 

industrial strife. If, as many competent witnesses main- 
tain, strikes and lockouts can be entirely superseded by 
compulsory arbitration without detriment either to em- 
ployers, employees or the public, the introduction of the 
latter in all progressive countries is likely to be a question 
only of time and occasion. 

The pioneer in the field of compulsory arbitration was 
New Zealand, whose first law making strikes and lockouts 
misdemeanors was passed in 1894. By this Act the coun- 
try was divided into districts, each of which was provided 
with a board of conciliation, which was to take the initia- 
tive in attempting to adjust differences between employers 
and employees and in case of failure to refer the dispute 
with recommendations to the Court of Arbitration also 
created. The boards of conciliation failed so often to 
settle disputes referred to them that an amendment was 
added, in 1901, permitting direct reference to the Court 
of Arbitration. This court consists of three judges, one 
a judge of the Supreme Court, and transacts business in 
very much the same way as any other tribunal. It has 
power to subpoena witnesses, examine books and, in fact, 
to sift the cases brought before it to the very bottom. 
The decisions or awards at which it arrives remain in force 
for three years unless superseded by subsequent decisions, 
and failure to comply with them is a serious offense. As 
a result of its activity nearly every trade in the Colony 
in which industrial disputes may arise is now carried on 
under stipulations as regards wages, hours and other con- 
ditions of employment laid down in its decisions. The 
system has thus not only put a stop in large measure to 
strikes and lockouts, but has made the relations between 
employers and employees subject to judicial determina- 
tion in somewhat the same way that they were in England 
in the sixteenth and seventeenth centuries. 

The seeming success of New Zealand's experiment in- 
duced New South Wales to adopt the system of compul- 



320 THE LABOR MOVEMENT 

sory arbitration in 1902. Western Australia had adopted 
it a year earlier, and in 1904 a federal compulsory arbi- 
tration law was enacted for the whole Commonwealth of 
Australia. The system of New South Wales differs from 
its model in that it provides no local boards of conciliation, 
but requires the reference of all disputes to the Central 
Court of Arbitration. It also requires that the awards 
of the latter shall apply not merely to the disputants, but 
to the whole trade which they represent. Thus the result 
which has been achieved somewhat unexpectedly in New 
Zealand, that is, a comprehensive labor code to govern the 
relations between employers and employees throughout the 
whole country, is deliberately aimed at by New South 
Wales. This code is subject of course to modification 
through the law-making power, but, with the labor legis- 
lation considered in the next chapter, it sets very definite 
limits to free competition and free contract as regulators 
of industrial relations. Compulsory arbitration is still in 
the experimental stage and too novel to be judged either 
a failure or a success, but it certainly merits the consid- 
eration of all countries interested in the solution of the 
strike problem. 

1 68. Use of the Injunction in Connection with Strikes. 
— Experience with the violence and disorder which so fre- 
quently accompany strikes has led in the United States to 
the free use of the judicial process called " the injunc- 
tion." This was developed by English courts of equity 
as a means of preventing irreparable or continuing inju- 
ries to property for which, in the nature of the case, if the 
injury were permitted to occur, no adequate damages 
could be secured. The peculiarity about the process is 
that when a court issues an injunction, violation of its 
order becomes in effect contempt of court and exposes the 
guilty person to such punishment as the court itself may 
decree. The ordinary protection accorded to criminals, 
such as trial by jury, the right to be represented by coun- 



THE INJUNCTION 321 

sel, etc., are set aside, and the offended tribunal becomes 
itself prosecutor, judge and jury all in one. The inev- 
itable tendency of the system is to deprive trials in injunc- 
tion cases of that judicial temper which should character- 
ize the relation between a court and an accused person, no 
matter what his offense. 

The applicability of the injunction process to labor dis- 
turbances is very clear. Workmen on strike are very apt 
to commit acts of lawlessness which involve the destruction 
of property and the interruption of business. Moreover 
they are usually irresponsible persons in the sense that it 
would be impossible by means of a civil suit for damages 
to secure redress after the injury had been inflicted. On 
these grounds courts readily issue injunctions to restrain 
workmen from doing illegal acts which involve the destruc- 
tion of property. Injunctions have even been issued or- 
dering workmen not to strike, on the ground that strikes 
interrupt business and cause loss, but the best authority 
gives no countenance to such use. 

From being express orders to designated individuals to 
refrain from doing specified acts, injunctions have devel- 
oped in the United States into sweeping commands to an 
indefinite number of persons ordering them not only 
not to do specified things, but to refrain from law- 
less acts in general. Thus, in the famous Debs case, 
growing out of the Pullman strike of 1894, an 
injunction was issued by a circuit court of the United 
States to members of the American Railway Union 
and " all other persons whomsoever," enjoining them from 
in any way interfering with the business of twenty-three 
great railway systems. The justification for such com- 
prehensive injunctions is that when a serious strike is in 
progress it is impossible to know in advance what particu- 
lar individuals will be moved by the passions of the moment 
to commit lawless acts or what particular acts will be com- 
mitted. Since the injunction never, in theory, prohibits 



322 THE LABOR MOVEMENT 

any but unlawful acts it is argued that its issue can inflict 
no injury on law-abiding citizens. 

If the law in reference to what may and what may not 
be lawfully done in connection with a strike were clear and 
definite, this justification would be convincing. But un- 
fortunately in the United States, as has already been 
pointed out, the law is neither clear nor definite. " Vio- 
lence," " intimidation," " conspiracy," the phrases habit- 
ually used to designate the lawless acts likely to be com- 
mitted by strikers, are differently defined in different juris- 
dictions. Under these circumstances some courts will issue 
injunctions to restrain acts which to other courts do not 
seem to justify resort to this extraordinary remedy; some 
judges will punish for contempt of court for acts which 
others would not deem to fall under the phrases which they 
all agree in using. Even more serious, as a reason for 
the opposition of American wage-earners to the injunctive 
process, is the conviction impressed upon them by the lan- 
guage used in judicial decisions, that American courts fail 
to balance fairly the personal rights at issue in industrial 
disputes. In endeavoring to protect the property inter- 
ests of employers they are believed to overlook the per- 
sonal rights of employees. In jury trials these personal 
rights receive due, perhaps undue, consideration and for 
this reason deprivation of the right to trial by jury in 
contempt cases seems to workmen a special hardship. 

To the writer the remedy for this situation appears to 
be, not the abolition of the injunctive process in connec- 
tion with labor disputes nor its serious modification, since 
its efficacy as a means of preserving law and order when 
other means fail has been abundantly demonstrated, but 
the education of judges to a more sympathetic apprecia- 
tion of all the rights involved in labor disputes and the 
clear formulation in statute law of the acts in connection 
with strikes that are unlawful. This last policy is the 
one that has been followed in the United Kingdom and it 



INFLUENCE OF TRADE UNIONS 323 

is a noteworthy fact that while the British courts employ 
injunctions as freely as do our own, " government by in- 
junction " is not complained of by the British labor press, 
much less made a political issue by the Labor Party. 

169. The Influence of Trade Unions on Wages. — The 
theory of wages that has been explained in these pages is 
that under conditions of free, all-sided competition work- 
men will be able to secure wages corresponding closely to 
the additions their labor makes to the value of the product. 
We have now to inquire what effect the presence of trade 
unions has upon the operation of this law. Do they serve 
merely to equalize conditions between employers and em- 
ployees so that the competition between them is really freer 
because fairer, or do they introduce an element of monop- 
oly on the side of labor which enables workmen to secure 
more than free competition would bring to them? In the 
opinion of the writer their influence in all but exceptional 
cases is confined to the first effect. In most trades in the 
United States there are both union and non-union men 
seeking employment. Unionists are striving constantly to 
induce non-unionists to unite with them in the effort to 
secure better terms from employers, but because of 
selfishness, short-sightedness, indifference or some other 
reason, there are always some of the latter who refuse to 
do so. As a consequence of this situation there is a source 
of supply on which employers may draw for their labor 
in case of emergency, which the unions are unable to con- 
trol. The competition for employment of this unorgan- 
ized labor sets a limit to the influence which the unions 
may have upon wages. The very best they can do for 
their members is to secure for them the full competitive 
rate. If they try to secure more employers will refuse 
to employ all of them, defections to the ranks of the non- 
unionists will occur and the competition for employment 
of these non-unionists will break down the standard rate. 
On the other hand, if they follow their own interest intel- 



324 THE LABOR MOVEMENT 

ligently they can secure not only for their own members, 
but for all the workmen in the trade, the full competitive 
rate of wages. Representative employers can afford to 
pay this and will do so if their ability in bargaining is 
matched on the other side. The services the unions per- 
form in securing this result may be summarized under the 
following heads: (1) they are organized to resist unfair 
terms and to cause loss to the employer who attempts to 
cut wages below the fair competitive rate; (£) they keep 
workmen informed as to the rates that are actually paid 
and in this way protect them from making bad bargains 
through ignorance; (3) they inform themselves in regard 
to general market conditions and force employers to ad- 
vance wages when conditions are favorable, more promptly 
than they would without such coercion. 

The above account of the influence of trade unions fails 
to consider trades in which all or practically all workmen 
belong to unions. Such trades are, as stated, rare in the 
United States and even in the United Kingdom, but that 
makes them no less interesting, since they represent the 
type whose realization is the goal of trade unionists' 
efforts. The influence of the unions on wages in such 
trades depends upon their policy in reference to the admis- 
sion of new members. This policy is determined in most 
factory employments by the ease with which the tasks to 
be performed can be mastered. When, as, for example, in 
the textile trades, no long apprenticeship is necessary, the 
unions must admit everyone to membership whom employ- 
ers will hire, on pain of losing control over the industry. 
When a union is open in this way to all comers the rate 
of wages which it can secure for its members cannot ex- 
ceed the competitive rate for workmen of the given grade 
of skill. If it did employers could not afford to hire all 
of the members of the union. The unemployed would be- 
come dissatisfied and either leave the union or force it 
to lower the standard rate until the demand should absorb 



TRADE-UNION MONOPOLIES 325 

them as well as their more fortunate fellows. In either 
event the standard rate would be brought to correspond 
closely to the competitive rate, as it was by the competi- 
tion of non-unionists in the previous case. 

170. Trade Unions are Sometimes Monopolies. — There 
are some trades in which the unions control practically 
the entire labor force and in which conditions permit the 
use of such control as a means to securing monopoly 
earnings. These are trades in which a long period of 
apprenticeship is necessary to the mastery of the tasks to 
be performed or in which legal obstacles, such as the re- 
quirement of a certificate of proficiency as a condition to 
engaging in the trade, prevent any sudden increase in 
the number of master-workmen. When a trade union be- 
comes strong enough in a trade of this type to limit the 
number of apprentices, or to determine the period of ap- 
prenticeship or the severity of the examination necessary 
to entrance to the trade, it may exercise effective control 
over the supply of competent workmen. By limiting such 
supply it may secure a virtual monopoly for its members 
and advance their wages to any point which the demand 
for their services permits. The management of such a 
monopoly calls of course for tact and skill because it has 
to contend with the opposition of other workmen, who 
would like to learn the trade and are prevented from 
doing so, with the opposition of employers who object to 
paying such high wages and with the opposition of the 
consuming public which objects to paying high prices for 
the products of the labor monopoly. Nevertheless such 
monopolies have existed and do exist, and the realization 
of them is the deliberate purpose of many trade unionists. 
That such labor monopolies are as much open to public 
condemnation as any other species of monopoly not con- 
trolled in the general interest seems to the author too clear 
for argument. Unions which make such control of the 
labor supply in their trades the object of their efforts and 



326 THE LABOR MOVEMENT 

seek to realize it by limiting the number of apprentices, 
charging exorbitant initiation fees, refusing to work 
with non-unionists and using every means from strikes to 
intimidation and violence to prevent the latter from gain- 
ing a foothold in the trade, must expect to meet the same 
criticism that is leveled against the trusts and other 
would-be monopolies. All of these policies except intimi- 
dation and violence are defensible as means to maintaining 
standards of workmanship and standards of pay propor- 
tionate to earnings in other trades. None of them is de- 
fensible as a means of preventing ambitious and competent 
men from mastering the trades concerned and deriving 
the same benefits from their energy and enterprise as do 
those already in the trade. 

171. Educational Work of Trade Unions. — In addition 
to the purposes that have been considered trade unions 
have other objects that deserve commendation. Many 
unions, especially those in skilled trades, act as mutual 
insurance associations for their members. By providing 
unemployment, sick, death and other benefits they render 
a valuable social service. But perhaps the most impor- 
tant aspect of their work is the educational. By bring- 
ing their members together to discuss questions of common 
interest they do a great deal to make them more intelligent 
and broader in their insight into economic and political 
problems. The experience which workmen get in manag- 
ing their unions helps them to appreciate the importance 
of organization as a condition to success and to perceive 
the value of the industrial service which their employers 
render. In the same way the accumulation and adminis- 
tration of the funds which they collect gives them clearer 
notions in reference to the origin and service of capital. 
From these facts it results that leading trade unionists 
are apt to be men of unusual ability, whose views on the 
labor question are conservative rather than radical and 
who, in the absence of personal prejudice, command the 



REGULATION OF TRADE UNIONS 327 

respect and esteem of employers almost as much as of their 
fellow workmen. 

The most important book dealing with trade unions in 
the United Kingdom that has yet appeared bears the 
significant title, " Industrial . Democracy." This makes 
prominent another service that trade unions render. As 
miniature democracies they reproduce on a smaller scale 
the self-governing states on whose success the future so 
largely depends. Their members learn in them how to 
give way when they cannot persuade, how to sacrifice 
smaller for greater ends and in general how to defer with- 
out rancor to the opinions and prejudices of others — 
qualities which are essential to the successful working of 
democratic institutions. The authors of the work re- 
ferred to, Mr. and Mrs. Webb, conclude that trade unions 
are preparing the way for the great co-operative com- 
monwealth or socialistic state which they think is in 
process of development. Whether they are right in this 
anticipation or not, there can be no question of the value 
of membership in a trade union as training for useful 
citizenship. 

Still another service rendered by trade unions is in con- 
nection with labor legislation. Through their very posi- 
tion trade unionists are led to recognize the need for labor 
laws before it is appreciated by the whole community. 
Again and again in the United Kingdom and the United 
States their agitation has secured the enactment of benefi- 
cent labor regulations. It would be exaggerated praise to 
ascribe to them all the progress that has been made in this 
field, or to maintain that they have not at times agitated 
for bad as well as for good labor laws; at the same time 
trade unions deserve more credit than any other single 
agency for what has been accomplished. 

172. The Regulation of Trade Unions. — Thus far the 
history of the labor movement in the United States has 
been the history of the spontaneous efforts of wage-earners 



328 THE LABOR MOVEMENT 

to help themselves through organization. Trade unions 
have been allowed to grow up and have even been encour- 
aged by special laws protecting their union labels and 
facilitating their incorporation, but nothing has been done 
in the direction of subjecting them to legal regulation. 
If the analysis of the services rendered by trade unions 
and the excesses of which they may be guilty which pre- 
cedes is accurate, it is desirable that the state assume a 
more positive policy towards them. Their monopolistic 
tendencies should be curbed. Effective measures should be 
taken to make it to their interest to preserve law and order 
during industrial disputes. Finally, unions which are both 
non-monopolistic and law-abiding should be encouraged 
by the grant of special privileges. It would take too 
long to outline an adequate program of trade union reg- 
ulation, but certain features of such a program may be 
indicated. The only means by which a trade union can 
maintain a labor monopoly is by restricting its membership 
through unreasonable apprenticeship and entrance fee 
and examination rules and through agreements with em- 
ployers which confine employment to union members. 
Trade unions might be prohibited from making or enforc- 
ing such restrictive rules and brought under the super- 
vision of some officer or commission, charged with the task 
of seeing the prohibition enforced. By these means close 
monopolistic unions might be rendered impossible and 
" closed-shop " agreements would then cease to be socially 
obnoxious. Or, if there was objection to entering at once 
upon a full-fledged policy of trade union regulation, the 
policy might be introduced by confining the protection 
which the law extends to trade union funds to those whose 
rules guarantee admission to membership to all respectable 
and competent workers in the trade. Such unions might 
be allowed to register under a designated state officer on 
having their rules approved by him, and might, as regis- 
tered unions, enjoy privileges not extended to non-regis- 



REGULATION OF TRADE UNIONS 329 

tered bodies. To check the tendency of unions to partic- 
ipate in, or at any rate to condone, acts of lawless- 
ness in connection with trade disputes, it might be pro- 
vided that persons convicted of such acts of lawlessness 
should be immediately suspended or expelled from the 
unions of which they were members, or, under the second 
plan, from registered unions on pain of forfeiting the 
privileges attached to registration. In either of these 
ways the present chaotic condition when there is no method 
of distinguishing between good and bad unions might be 
remedied and a situation created much more favorable to 
the realization of those trade union ends which harmonize 
with the general interests of the community. 

REFERENCES FOR COLLATERAL READING 

* Adams and Sumner, Labor Problems; * Oilman, Methods of 
Industrial Peace ; * Commons, Trade Unionism and Labor Problems ; 
Ely, The Labor Movement in America (now out of date), and arti- 
cle on * Trade Unions (in the New International Encyclopaedia) ; 

* Brooks, The Social Unrest; * Levasseur, The American Workman; 

* Mitchell, Organized Labor; National Conference on Industrial Con- 
ciliation and Industrial Conference of the National Civic Federation, 
1901 and 1902; Reports of the United States Bureau of Labor; Bul- 
letins of the United States Bureau of Labor; Reports and Bulletins 
of the Bureau of Labor of Massachusetts; Reports and Bulletins of 
the Department of Labor of New York (these official publications 
are invaluable sources of information) ; The American Federationist 
(published by the American Federation of Labor) ; Report of the 
Commission on the Anthracite Coal Strike (1903); Report of the 
United States Industrial Commission, Vols. VII., VIIL, XII., 
XIV. and XVII. 

The labor movement in Great Britain receives consideration in the 
following works: * Sydney and Beatrice Webb, Industrial Democ- 
racy and History of Trade Unionism; de Rousiers, The Labour 
Question in Britain; * Drage, The Labour Problem; * Report of the 
Royal Commission on Labour (1894) ; Howell, Trade Union Law 
and Labour Legislation, Labour Movements and Labour Leaders. 

New Zealand's experiment with Compulsory Arbitration is dis- 
cussed in the Report which Judge Backhouse prepared for New 
South Wales, entitled, * Report of the Royal Commission on the 
Working of Compulsory Arbitration Laws, and in Chap. I., Vol. II., 
of * Reeves, State Experiments in Australia and New Zealand (bib- 
liography). See also: * Clark, The Labor Movement in Australasia; 
and * Broadhead, State Regulation of Labour and Labour Disputes 
in New Zealand (1908). 



CHAPTER XIX 
THE LEGAL REGULATION OF LABOR 

173. Reasons for the Legal Regulation of Labor The 

laissez-faire, or non-interference, policy, which was sub- 
stituted for the policy of legal restriction in the United 
Kingdom during the first half of the last century, has been 
from the first subject to one important exception. It has 
never been allowed to include fully the relations between 
employer and employee. Reasons for this exception were 
suggested in the last chapter, but they must now receive 
more careful consideration. 

Unorganized workers do not bargain on terms of equal- 
ity with employers. That this is the case when the workers 
are children will scarcely be questioned by anyone. Em- 
ployers of such labor stand to it in a relation half paternal 
and have it in their power to make or mar the young lives 
that are devoted to their service. To protect children from 
the rapacity and cruelty of unscrupulous employers labor 
laws have been found necessary in every civilized country. 

It is generally, although not universally, conceded that 
protective labor laws ought to extend to women as well as to 
minors. Such extension is defended by those who think that 
the activity of women should be confined so far as possible 
to the domestic circle, on the ground that women are un- 
fitted for the rough and tumble of industrial competition 
and if permitted to work for wages at all, should do so on 
conditions marked out for them by law. A reason less open 
to objection is the simple fact that women have not yet 
learned to organize unions or to protect themselves in other 

330 



REASONS FOR LABOR LAWS 331 

ways and are therefore the prey of grasping employers 
when the law fails to protect them. 

If the second of the above grounds be accepted as a 
justification for laws protecting women wage-earners, there 
seems no reason why such laws should not be extended to 
men in those trades in which they do not bargain on equal 
terms with their employers. This view has, as we shall 
see, found expression in many countries in connection 
especially with legislation affecting the so-called sweating 
trades. 

Another reason for protective labor laws, than inequality 
in bargaining power between employers and employees, is 
the ignorance and carelessness of wage-earners. Ignorance 
often leads workmen to assume risks and undertake tasks 
on terms that they would not with full knowledge accept. 
Once committed, the inertia that is characteristic of all 
men prevents them from repudiating their bargains. Care- 
lessness is an even more common cause of contracts of em- 
ployment that are socially undesirable. This is conspicu- 
ously the case in dangerous trades. The natural optimism 
of workmen leads them to feel that whatever the dangers 
may be, they themselves will escape. The result is that 
they accept risks, even certainties, of disease and death on 
terms that compensate neither them, their families nor so- 
ciety at large for the waste of life which such employments 
entail. It is on this account that special legislation in ref- 
erence to the conditions of employment in dangerous trades 
has been found necessary, and on it also are based the 
laws in reference to employers' liability for injuries to their 
employees and industrial insurance that are discussed in a 
later section (Section 181). 

In drafting protective labor laws the end to be held 
constantly in view, it is hardly necessary to add, should 
be the good of the whole community. This should be con- 
ceived in no narrow spirit, but should take full account 
of the effect of restrictions on slowly evolving society. A 



332 LEGAL REGULATION OF LABOR 

temporary benefit should not be preferred if its result is 
likely to be the conservation or encouragement of an un- 
desirable type of person, nor should temporary inconveni- 
ence or loss be shunned if its long-run result is likely to 
be advantageous. 

174. The Constitutionality of Labor Laws in the 
United States. — The history of labor legislation in the 
United Kingdom is instructive on many accounts. No 
country has gone further in its adoption of the laissez- 
faire policy as regards other industrial relations and in 
none have the successive steps in the development of the 
comprehensive law which now protects not only children 
and women, but adult men, been so vigorously opposed or 
finally passed on the basis of such careful study of actual 
conditions. 

The United States has been much influenced by British 
legislation in this field and a comparison of the labor laws 
of the two countries shows that time and again British 
laws have served as models for the regulations drafted 
by American legislatures. At two points, however, there 
have been important differences. In the United States 
labor relations have been objects, for the most part, for 
State rather than national legislation, and here this 
legislation, unlike that of the British Parliament, has 
always been subject to judicial review. As interpreted 
by the courts both the State and the Federal constitutions 
guarantee freedom of contract and immunity from special 
or class legislation. These guarantees are not absolute. 
All authorities agree that they may be set aside in order 
to protect individuals in their lives, their health, their 
morals or their property in the exercise of the state's 
" police power." Unless a labor law can be shown to have 
such protection for its purpose, however, and to be rea- 
sonably calculated to achieve its object, it will be declared 
unconstitutional. 

A study of American decisions in cases involving labor 



CONSTITUTIONALITY OF LABOR LAWS 333 

laws is well calculated to confuse even the legal mind. 
There is scarcely a regulation, from a simple restriction on 
the age at which children may be employed to the provision 
that men may work only eight hours a day in specified 
industries, that has not been declared unconstitutional in 
certain sections of the country, only to be upheld as a legit- 
imate exercise of the police power in others. The Supreme 
Court of Pennsylvania characterized an act prohibiting 
the payment of wages in orders on a company store as 
" utterly unconstitutional and void " and went on to say 
that it represented " an insulting attempt to put the 
laborer under a legislative tutelage, which is not only de- 
grading to his manhood, but subversive of his rights as a 
citizen of the United States," and yet similar measures 
have been upheld in several of the other States as proper 
and beneficent restrictions. The Supreme Court of Illinois 
declared an eight-hour law applying to women employed in 
the sweating trades unconstitutional on the ground that it 
involved class legislation, and yet the courts in Massachu- 
setts, New York and. even Pennsylvania have affirmed the 
right of the legislature to single out women and the sweat- 
ing trades for restrictions which do not apply generally 
throughout the community. Finally, the Supreme Court 
of Colorado declared unconstitutional an eight-hour law 
applying to men employed in the mining and smelting in- 
dustries on the ground that if such a law was calculated to 
protect the health and morals of anyone, it could only be 
of the very men whose work was restricted, and that the 
legislature had no right to restrict freedom of contract for 
the benefit only of the persons whose liberty was thus 
limited; and yet the Supreme Court of the United States 
had declared, in upholding the constitutionality of an iden- 
tical statute previously passed by the State of Utah, that 
the legislature had the right to protect an individual even 
" against himself," on the ground that " the state still 
retains an interest in his welfare no matter how reckless 



3S4 LEGAL REGULATION OF LABOR 

he may be," and that when " the individual health, safety 
and welfare are sacrificed or neglected the state must suf- 
fer." In all of these cases, except the last, the difference 
of opinion concerns not the principle involved, but its ap- 
plication, and it requires no great insight to perceive that 
the really determining consideration was whether the par- 
ticular measure was deemed wise and beneficent or the 
reverse. If expedient, a restriction on labor must in the 
nature of the case be calculated to protect the health or 
morals, at least of the protected classes. If inexpedient, it 
becomes thereby an illegitimate exercise of the police power 
for the simple reason that it is not calculated to secure, in 
a large sense, the ends for the realization of which that 
power exists. It follows that the constitutional obstacle to 
labor legislation in the United States may be expected to 
give way so soon as public opinion, and particularly ju- 
dicial opinion, has been educated to the point where it 
approves of such legislation. As laws that may be passed 
in this field are not likely to be enforced unless public 
opinion is behind them, this obstacle ought not to retard 
unduly the enactment of such restrictions as industrial 
conditions call for. In fact, up to the present time, there 
have been few occasions on which labor laws which have 
been widely demanded by public opinion have been de- 
clared unconstitutional. 

175. Child-labor Laws in the United States. — The 
development of child-labor laws in the United States has 
been closely connected with the growth of public schools 
to serve as substitutes for the factory and workshop. 
Those States which have given most attention to questions 
of education, like Massachusetts and New York, have 
adopted the most rigid child-labor laws. On the other 
hand, the States whose public educational systems are 
backward, as are those of the South, have lax child-labor 
laws. During the last decade a great deal of attention 
has been given in the United States to the needs of children 



CHILD-LABOR LAWS 335 

and not a year now passes that additions are not made to 
the protective laws of some of the States. At the time of 
writing (1908) the child-labor law of New York sets a 
higher standard than that of any other State. Under this 
law no child under fourteen may be employed in manufac- 
turing or mercantile pursuits and no child under sixteen 
may be employed without an " employment certificate." 
Such certificates are issued by the local boards of health 
only on the basis of documentary or other conclusive evi- 
dence of age and of school attendance or proficiency, and of 
a physical examination to determine fitness. Children from 
fourteen to sixteen who obtain such certificates may be em- 
ployed not more than eight hours a day in factories and not 
more than nine in mercantile establishments. To facilitate 
enforcement, the working period for children in factories is 
rigidly restricted to the hours from 8 A. M. to 5 P. M. 
From this high standard the child-labor laws of the other 
States digress to the low standards still found in some of 
the Southern States. An efficient agency for hastening 
reform in this field of legislation is the National Child 
Labor Committee. From its headquarters in New York 
City this association is engaged in organizing local senti- 
ment to secure better laws and more rigid enforcement in 
those communities where standards are lowest. Through 
its efforts and those of the local committees affiliated with 
it, there is good promise that the law of New York will in 
no very long time be copied in its essential features 
throughout the country. 

Equally important with restrictions on the labor of chil- 
dren are provisions insuring their attendance at suitable 
schools up to the age when they are permitted to become 
bread-winners. As the public schools are improved and ex- 
tended, little argument will be needed to demonstrate the 
advantage of having every boy and girl enjoy the training 
they afford, or equally good training, up to the age at least 
of sixteen. Merely as a commercial investment, public money 



336 LEGAL REGULATION OF LABOR 

spent on such training is sure to yield rich returns in the 
superior industrial efficiency of the population. In order 
to insure that full advantage will be taken of the public 
schools it is necessary to restrict the employment of chil- 
dren more rigidly than regard merely for their physical 
development would require. On this ground the prohibi- 
tion of the employment of children under fourteen should 
be looked upon as only a beginning. By successive steps 
the minimum age of employment should be raised at least 
to sixteen, and school facilities should be increased and im- 
proved so that all children up to that age shall be given the 
best educational advantages. 

176. Laws Regulating the Labor of Women. — As re- 
gards the labor of women, restrictions in the United States 
are, on the whole, less rigid than in European countries. 
Thus in Massachusetts and New York the maximum work- 
ing periods for women employed in factories are fifty-eight 
and sixty hours a week, respectively, as compared with 
fifty-five in textile and sixty in non-textile factories in 
the United Kingdom. Several of the States, moreover, im- 
pose no restrictions whatever on the employment of women, 
and in at least one (Illinois) such special restrictions have 
been declared unconstitutional. The opposition to such 
regulations, so far as it is disinterested, is based on the 
fear that they may serve to undermine the spirit of inde- 
pendence of the protected persons. Experience seems to 
indicate that they have, in fact, a directly contrary effect. 
By preventing employers from prescribing working hours 
that would be detrimental to the health of their women 
employees, they permit the latter to retain that state of 
mind and body that is indispensable to any real independ- 
ence of thought or action. So long as the restrictions 
apply generally to all women and are neither extreme nor 
unreasonable, there is nothing in them to lessen the self- 
respect of the protected classes. They are accepted like 
other conditions over which the persons affected have no 



THE EIGHT-HOUR DAY 337 

control, without lessening in the least their determination 
in dealing with those other conditions which they may hope 
to modify. The reasons for regulating the employment of 
women apply with special force to those who are married. 
In the United Kingdom the law prohibits the employment 
of such women within four weeks after childbirth, and all 
medical authorities agree as to the importance of such a 
restriction. Many thoughtful persons think that the law 
should go even further and either prohibit altogether the 
employment of married women in shops or factories or 
limit it to married women without infant children. Desir- 
able as such a limitation would be in most cases, the impos- 
sibility of enforcement is a decisive objection to it. It 
seems wiser to rely upon the education of married women 
themselves and their husbands, and upon the influence of 
public opinion, to restrict the employment of married 
women to cases in which it involves no sacrifice of the 
interests of children. 

177. Would a Universal Legal Eight-hour Day be 
Desirable? — Restrictions in reference to hours of employ- 
ment, imposed in some instances by law and in some by the 
rules of trade unions, have advanced so far in the United 
States that there is now widespread agitation for a legal 
eight-hour day, to apply to all employees in all trades. 
This period of employment has already become general for 
Government employees. It is common in the building and 
other skilled trades. In other employments, nine, ten and 
even twelve-hour periods are still the rule, but many people 
believe that the time is ripe for the change to eight hours. 

Much as may be said in support of a further shortening 
of the working day in many employments, the proposal 
that a uniform period be made to apply to all alike seems 
unsupported either by reason or experience. Different oc- 
cupations make different demands on the strength and 
nervous energy of workmen, and a workday that would be 
moderate for one kind of employment would be excessive. 



LEGAL REGULATION OF LABOR 

for another. These differences have been considered in 
the development of protective labor laws in the distinc- 
tions made in all countries between manufacturing, mer- 
cantile and other pursuits. To disregard them by estab- 
lishing a uniform eight-hour day would be to take a back- 
ward step. It is doubtless true, as urged by advocates of 
the eight-hour day, that its adoption for certain trades 
would involve no permanent lessening of the productive- 
ness of a day's labor. The shorter work period would 
insure more active and intense exertion on the part of 
workers than they can maintain when employed for nine or 
ten hours. On the other hand, it is equally certain that 
in other trades reducing hours to eight a day would reduce 
the output. The effect of this in the long run would nor- 
mally be to reduce wages, and it is highly probable that 
such a reduction would in many cases inflict more injury 
than the shorter workday could compensate. It would 
seem better for each country to proceed piecemeal toward 
the realization of shorter working hours for all employees 
as in the past, rather than to adopt all at once a regula- 
tion which could not but be disadvantageous to many and 
might prove unsatisfactory to all. 

The above objections to an eight-hour law applying to 
all occupations do not involve any criticism of the policy 
of restricting by law the hours of men as well as of women. 
Skilled workmen, especially when organized in trade 
unions, do not usually require such protection. To un- 
skilled workmen, however, it may be the indispensable 
means to the attainment of a higher standard of living and 
of industrial efficiency. The argument that it serves to 
undermine the spirit of independence has already been ex- 
amined and rejected. Those who advance it fail to consider 
that deadening and monotonous toil too long continued is 
more inimical to the spirit of independence than any 
amount of regulation. They also ignore the fact that re- 
strictive labor laws are usually passed out of deference to 



THE SWEATING EVIL 339 

the wishes of those they are designed to protect, and that 
they are often the only means by which a determined ma- 
jority can prevent an ignorant or selfish minority from 
blocking progress. Here, as elsewhere, it is often desir- 
able for the state to interfere to establish the plane of com- 
petition, and experience affords no ground for the view 
that self-reliance and the spirit of self-help are lessened 
by an exercise of legislative authority to advance this 
plane to ever higher levels. 

178. The Sweating Evil. — Industrial progress, like 
progress in other fields, has its dark as well as its bright 
side. The dark side in connection with conditions of em- 
ployment is presented in the so-called " sweating trades." 
These are carried on in large cities everywhere and have 
even spread to country districts. A description of the 
system as it prevails in connection with the clothing indus- 
try will reveal its salient features. As this industry is 
now carried on, it is divided into various stages. Cutting 
the cloth from which garments are to be made is per- 
formed under the direct superintendence of the manu- 
facturer. The pieces are then tied in bundles and turned 
over to contractors who agree to have them made up at so 
much a garment. The latter convey them to their shops, 
the " sweat-shops " proper, and either have the work done 
there under their own supervision by poorly paid and over- 
worked men, women and children, or else subcontract them 
to men and women who make them up in their own homes. 

The evils that result from the sweating system are that 
wages are low and unequal for the same kinds of work, em- 
ployment is irregular, hours are long, the premises on 
which the work is done are insanitary and, finally, there is 
little chance for advancement in the trade for the rank and 
file of workers. The system owes its existence to a number 
of causes. In the first place, the work to be done is of the 
simplest character, and any person of ordinary intelligence 
can learn to do it, after a fashion, after a few hours' in- 



340 LEGAL REGULATION OF LABOR 

struction. This throws it open to the competition of men, 
women and children of all classes and conditions. Home 
work is taken by the well-to-do wives of laborers as a means 
of securing pin-money, and also by poor widows strug- 
gling to keep their children from starvation. Men too old 
for any other kind of work sew side by side with young 
children who ought to be in school. The consequence of 
this competition is that the labor market is always over- 
stocked and wages correspondingly depressed. In the 
cities of the United States competition for employment in 
the sweating trades is made especially severe by the steady 
influx of immigrants, many of whom find this species of 
work the easiest to take up, and do not learn, until after 
they have been in the country some time, how much worse 
off they are than American workmen in other trades. An- 
other cause is the ignorance and comparative isolation of 
the workers. This applies especially to those who work at 
home. They go to the contractor, or " sweater," singly or 
in pairs, and have to rely largely on his fairness in deter- 
mining what they ought to get for their work. The suc- 
cess of the sweater depends upon the shrewdness and re- 
lentlessness with which he takes advantage of his position. 
He makes a special bargain with each outworker and gets 
the best terms he can, irrespective of what he is paying 
others for the same work. The different piece prices to 
which this may give rise was illustrated in Philadelphia 
during the Spanish-American War, when standard army 
trousers, all of which had to be passed upon by the same 
Government inspectors, were being made up in different 
shops for from thirty-five to seventy-five cents a garment. 
Still a third cause of the system is the irregularity of the 
demand for the goods produced. At certain seasons work 
is active and contractors who have taken " hurry-up 
orders " drive their employees to the extreme limit of 
human endurance. At other times work is scarce and the 
competition for it is so severe that earnings are reduced 



REMEDIES FOR SWEATING 341 

to a starvation level. This irregularity is perhaps the 
worst aspect of the sweating system, since it is destructive 
alike of health and character. 

179. Remedies for the Sweating System It is easier 

to perceive the causes of the sweating system than to devise 
remedies, and yet much has already been done to improve 
conditions. In American cities the plan is being tried of 
requiring premises in which the sweating trades are carried 
on to be licensed for the purpose, and of making the issue 
and continuance of licenses contingent on compliance with 
sanitary and labor regulations. The factory inspectors 
are required to inspect the shops and homes in which such 
work is performed and to hold contractors responsible for 
work done in unlicensed premises. In the United Kingdom 
a further step has been taken by making the manufactur- 
ers for whom the work is being done responsible for the 
sanitary condition of the premises in which it is performed, 
after notification by the inspector that these premises are 
unsatisfactory. Either system requires for its successful 
operation a larger force of factory inspectors than has 
usually been provided. Moreover, even if rigidly en- 
forced, the measures thus far taken in the United Kingdom 
and the United States would remedy only one phase of the 
sweating evil, that is, the insanitary conditions under 
which the work is carried on. The long hours and low 
wages, which are its worst features, remain unaffected. 

The most drastic remedy yet applied to the sweating 
evil was adopted by the state of Victoria, Australia, in 
1896, through the creation of wage boards consisting of 
from four to six members to be chosen one-half by employ- 
ers and one-half by employees and empowered to fix not 
only wages, but hours of labor and the proportion of ap- 
prentices to be employed in the designated industries. The 
decisions arrived at by these boards are binding on the 
whole trade, and can be reversed only by the Supreme 
Court. Under this system, applying now to more than 



342 LEGAL REGULATION OF LABOR 

forty trades, minimum wages both for time and piece work 
have been established and maximum hours of employment 
prescribed. The available evidence indicates that condi- 
tions in the sweating trades have been materially improved, 
and that, incidentally, home work in certain trades has 
been rendered unprofitable. Of course, one effect of the 
change has been to increase the number of persons in the 
colony who are dependent on public charity, but the ex- 
clusion of these incapables from the ranks of the employed 
is believed to have been good both for them and for the 
more efficient. In practice, New Zealand's system of compul- 
sory arbitration has secured for many of the sweating 
trades wages and hours determined by judicial decree, and 
in the opinion of many persons the results of this method 
are even superior to those of Victoria's wage boards. The 
essential characteristics of both are that considerations of 
social expediency and general good are substituted for 
blind competition as the regulators of conditions of em- 
ployment, and standards are fixed which insure to those 
who can obtain employment living wages and reasonable 
hours. The inefficient, who are " unemployable " under the 
new conditions, become objects for public charity, but ex- 
perience seems to prove that the whole cost of their main- 
tenance is less of a tax on the social organism than was 
their competition when they were allowed partly to main- 
tain themselves. 

Both New Zealand's and Victoria's plans for solving the 
sweat-shop problem are dismissed as too radical by most 
American students of the evil. The further remedies that 
are advocated for the system as it exists in the United 
States are additional restrictions on immigration, more 
rigid sanitary regulations and a provision that all gar- 
ments made in tenement houses shall bear a " tenement- 
made " label as a warning to consumers that they are buy- 
ing sweaters' products. There is little question but that 
these changes in the law, coupled with provisions for more 



REGULATION OF DANGEROUS TRADES 343 

rigid enforcement, would cause improvement, but it is 
doubtful whether the evil can be corrected by such simple 
means. It is a significant fact that the most careful study 
of the sweating evil in the United Kingdom that has yet 
been made concludes with an argument in favor of the 
Australian method of dealing with it. A bill embodying 
such a plan is now (1908) before Parliament. This remedy 
has at least the merit of striking directly at the root of the 
evil. If other plans fail it should be adopted. 

180. The Regulation of Dangerous Trades. — Besides 
the sweating trades there are others which require special 
regulation on the ground that they are dangerous to life 
or health. All manufacturing industries which use power 
machinery are dangerous to a certain extent, and experi- 
ence has taught the wisdom of requiring that revolving 
machinery be fenced and that the cleaning of machines 
while in motion be either prohibited altogether or limited 
to adult workmen. In addition to these general regula- 
tions, which are now included in the factory laws of all 
progressive countries, experience has shown the need of 
special restrictions on particular trades. Occupations 
connected with the cleaning of textile fabrics and the pol- 
ishing of metals are peculiarly unhealthful, as are also 
those concerned with the manufacture of white lead and 
of most chemicals. In the transporting and mining indus- 
tries the rate of mortality is very great and can only be 
kept down by legal interference, since even such simple 
appliances as safety lamps and automatic couplers are 
introduced but slowly by employers unless their use is made 
obligatory. 

The United Kingdom has gone much further than any of 
the States of the United States toward the adequate regu- 
lation of dangerous trades. The present system of that 
country is to vest large discretionary powers in reference 
to the control of dangerous trades in the Home Secretary. 
Medical practitioners are required to report illness which 



344 LEGAL REGULATION OF LABOR 

they believe to be due to unhealthful conditions of employ- 
ment to the factory inspectors, and the latter, so soon as 
they become persuaded that a trade is dangerous and in 
need of special regulation, are required to bring the matter 
to the attention of the Home Secretary. That officer, if 
he deems it necessary, drafts, with the assistance of ex- 
perts, rules calculated to meet the needs of the situation 
and sends copies of them to the employers who will be af- 
fected, with the request that they file their objections to 
them within twenty-one days. These are carefully con- 
sidered, and revised rules are then issued which have the 
force of law unless vetoed by either House of Parliament. 
This system has the great merit of adapting itself readily 
to changing conditions, and might with advantage be 
copied in its important features in the United States. 

181. Employers' Liability for Industrial Accidents. — 
No matter how rigid the regulations in reference to dan- 
gerous trades, accidents to employees resulting in tempo- 
rary or permanent disability, or even death, are certain 
to occur. Under the common law of negligence as inter- 
preted by English and American courts, employers are 
liable for damages when accidents are due to their personal 
fault. When, however, an accident is due to unpre- 
ventable causes or to the carelessness of the employee him- 
self or one of his fellow employees, no liability attaches 
to the employer. In such cases, unless damages can be 
collected from the fellow employee responsible, the entire 
loss must be borne by the unfortunate victim of the acci- 
dent and his family. The impolicy and injustice of this 
arrangement have long been appreciated, and have led to 
the modification of the law of employers' liability in several 
different directions. 

In the United States all that has thus far been done has 
been to extend the employer's liability to cases in which 
accidents are due to the carelessness of his representatives. 
Thus by the Employers' Liability Act adopted by New 



WORKMEN'S COMPENSATION 345 

York in 1902, the employer is responsible for any acci- 
dent to an employee, " himself in the exercise of due care 
and diligence at the time," due to any defect in the 
condition of the ways, works or machinery used in the 
business traceable to the negligence of employees respon- 
sible for the care of such ways, works or machinery, or 
to the negligence of an authorized superintendent of the 
employer. For accidents due to the negligence of em- 
ployees of the same or of an inferior grade to the victim, 
employers would not, under this act, be liable. 

A similar law to that of New York was adopted by the 
United Kingdom as early as 1880, but was found insufficient 
as a remedy. At the instance of Mr. Joseph Chamberlain, 
an entirely new policy, known as that of " workmen's 
compensation," was introduced through an act passed in 
1897. By this measure, which was amended in 1906 so as 
to apply to practically all of the industries of the country, 
employers are required to compensate, according to a fixed 
scale, workmen or their families for accidents sustained 
in connection with their employments and resulting in at 
least two weeks' disability, unless such accident is due 
to the " serious and wilful misconduct of the workman 
himself " and does not result in his death. The amount 
of compensation is limited to £1 a week in case of tem- 
porary disability and £300 in case of complete disabil- 
ity or death, and simple machinery is provided for de- 
termining, without recourse to a court, what part of 
these sums should be paid in any given case. In defending 
this law, Mr. Chamberlain insisted that it is not true, as 
economists are fond of assuming, that wages in dan- 
gerous trades are enough higher than those in other 
trades to compensate workmen for the risks they take. 
Even if it were true, it might be added, the difference 
would not compensate the particular workman who was in- 
jured unless some plan of mutual insurance had been 
adopted by which the extra compensation was placed in a 



346 LEGAL REGULATION OF LABOR 

common purse for the benefit of those upon whom acci- 
dents might fall. The only way to equalize conditions 
between safe and dangerous trades, Mr. Chamberlain 
urged, was to throw the burden for compensation for acci- 
dents upon the employer, who would, in turn, throw it upon 
the consumer by charging somewhat higher prices for his 
goods. " When you enter upon a business," he said to 
employers, " you must consider this compensation as much 
a trade charge as is now the provision which you are called 
upon to make for the repair of machinery. You at pres- 
ent have to put aside every year a certain sum for the re- 
pair of the inert machinery, which is a factor in your 
business. Now, the human element in the business has to 
be considered, and in case of accident what reparation 
you can make must be made as a charge upon the busi- 
ness." The active opposition which the act at first encoun- 
tered appears to have given place to general acceptance 
of it on the grounds given by its author. Employers 
have been able to transfer to industrial insurance com- 
panies their liability for compensation under it, and thus 
accident insurance has come in the United Kingdom to be 
as normal an item among the expenses of production as 
was fire insurance before the Workmen's Compensation Act 
was passed. 

Schemes of industrial insurance similar to the Work- 
men's Compensation Act are now well-nigh universal in 
European countries. Perhaps the most elaborate is the 
compulsory insurance system of Germany, under which 
employers, employees and the government all contribute to 
the insurance fund out of which compensation is paid to 
workmen in case of accident or illness. The principal ob- 
jection that is urged against this plan is that the cost of 
its administration is out of proportion to the benefits which 
result from it, but this may easily be exaggerated through 
failure to appreciate the saving in the cost of administer- 
ing public and private charities that may properly be 



CONCLUSION 347 

credited to such a comprehensive system of industrial 
insurance. 

In the field of industrial insurance European precedents 
have thus far had little weight in the United States, where 
there is still a strong prejudice in favor of self-depend- 
ence in all such matters. It is argued that each individual 
should accept the risks of his special occupation or insure 
himself against them through private industrial insurance 
companies, and that only in this way can the spirit of self- 
help and self-reliance, upon which our advancing civiliza- 
tion so largely depends, be kept alive. The obvious reply 
to this reasoning is that in practice workmen underesti- 
mate the risks to which they are exposed and fail to insure 
themselves against them. The consequence is that when 
accidents befall them their families are only too apt to be 
left without adequate provision and to become dependents 
upon public or private charity. In the opinion of the 
author a plan by which compensation for industrial acci- 
dents is made one of the conditions of the labor contract 
tends on the whole to promote self-reliance and independ- 
ence among the working classes rather than otherwise, 
because it reduces the amount of enforced dependency. If 
this view is correct the United States should lose no time 
in introducing some method for the compulsory indemnifi- 
cation of the victims of industrial accidents. 

182. Conclusion. — The subject of the legal regulation 
of labor is one of great complexity. Up to the present time 
a priori objections to such regulations have delayed their 
introduction, and only gradually, as experience has demon- 
strated their usefulness, have they been extended to situa- 
tions which seem to require them. In the United States the 
notion that the legislative power should not be used to regu- 
late hours and conditions of employment has been aban- 
doned by most thoughtful persons, but the prejudice 
against any interference with wages, like that practised in 
New Zealand and Australia, remains nearly as strong as 



348 LEGAL REGULATION OF LABOR 

ever. There is, of course, good ground for this distinction. 
Hours and other conditions of employment affect directly 
the health and vigor of the working classes ; wages only 
indirectly. Moreover, workmen are less mindful of their 
own interest in connection with hours and sanitary ar- 
rangements than in connection with wages. Making all 
allowance for these considerations, many thoughtful per- 
sons still believe that, under certain circumstances, notably 
those found in connection with the sweating system, the 
regulation of wages must also be undertaken by the gov- 
ernment if serious evils are to be corrected. It is some- 
times argued that the law cannot fix the rate of wages, 
but this is contrary both to reason and experience. The 
law cannot fix both wages and the number of persons who 
shall be employed at those wages, but it can declare that 
no one shall be employed in given trades unless paid cer- 
tain minimum wages, and enforce its decree. The result 
may be an addition to the number of dependents, who are 
" unemployable " at the wages fixed because too inefficient 
to earn them, but it may be better and cheaper for society 
to support such persons in some other way than to permit 
their competition to hold the wages of great sections of 
the population down to a starvation level. In order to 
mark off the dependent from other classes the state may 
find it necessary itself to fix a standard by which the 
ability of the individual for independent self-support may 
be determined. Without desiring to advocate the establish- 
ment by law of standard or minimum rates of wages for 
the sweating trades, the author wishes to insist that there 
would be nothing in this policy inconsistent with the theory 
of wages that has been explained in these pages, and that 
it merits the same unprejudiced consideration as is now ac- 
corded by intelligent people to proposals for restricting 
the employment of children or women, or for requiring the 
use of safety appliances in connection with dangerous 
trades. 



CONCLUSION 349 

In the United States a serious obstacle to the progress 
of labor legislation has been the inability of State legis- 
latures to agree upon uniform laws. Massachusetts has 
held an honorable place as a leader in factory legislation, 
but of late years proposals for a further restriction of 
hours have been met there with the objection that the cot- 
ton mills of the State were already carrying on a losing 
battle against the cotton mills of the South, which have 
been free from all but the mildest labor restrictions. Ex- 
aggerated as this objection often is, it points to the need 
of uniform labor laws, at least for neighboring States, and 
suggests the desirability of national labor legislation. 
Massachusetts, the State which from its position of leader- 
ship has most keenly felt the absence of uniformity, 
adopted, in 1902, a concurrent resolution favoring an 
amendment to the United States Constitution which should 
empower Congress to enact uniform labor laws for the 
whole country. Another movement in the same direction 
was the creation, in 1883, of the Association of Officials of 
Bureaus of Labor of America, which has worked earnestly 
to secure uniformity in the factory regulations of the dif- 
ferent States. The progress towards uniformity that has 
been made encourages the hope that its absence may be 
less of a bar to improved labor regulations in the future 
than it has been in the past. 



REFERENCES FOR COLLATERAL READING 

The literature bearing on labor regulations is of a somewhat tech- 
nical character. * Stimson, Handbook to the Labor Laws, is the 
standard work for the United States. More exhaustive is the Report 
of the United States Bureau of Labor on Labor Laws in the United 
States, which is brought down to date by the Bulletins of Labor of 
the same Bureau. Volumes V. and XVI. of the Report of the 
United States Industrial Commission contain digests of the labor 
laws of the United States and of foreign countries. Discussions of 
the history and effects of labor legislation will be found in North, 
Factory Legislation in New England (against) and Whittelsey , Mas- 
sachusetts Labor Legislation (for). A good statement of the argu- 



350 LEGAL REGULATION OF LABOR 

ments for child-labor laws is given in * Murphy, The Case Against 
Child Labor and The South and Her Children. The Handbook on 
Child Labor Laws, published each year by the National Consumers' 
League, gives the latest statutes. Other references are given in 
* Marot, A Handbook of Labor Literature. 

The history of labor legislation in Great Britain is treated in von 
Plener, English Factory Legislation (1876), and * Hutchins and Har- 
rison, A History of Factory Legislation (1903). The laws now in 
force are given in Abraham and Burrows, The Law Relating to Fac- 
tories and Workshops (1908). The best books dealing with special 
topics are: * Mrs. Webb, The Case for the Factory Acts; * Black, 
Sweated Industry; * Willoughby, Workingmen's Insurance. 



CHAPTER XX 
LEGAL AND NATURAL MONOPOLIES 

183. Importance of the Monopoly Problem. — As ex- 
plained in Chapter IX. the essence of monopoly is such 
control over the supply of an economic good as enables 
the monopolist to regulate its price. In Chapter XVIII. 
we considered cases of such control exercised by trade 
unions and designed to enhance wages or the price of labor. 
Much more common and also more detrimental to general 
well-being are monopolies which consist in control over the 
supplies of commodities. Such monopolies have it in their 
power in greater or less degree to compel the public to pay 
regularly and continuously for the commodities they control 
higher prices than are needed to cover the expenses of their 
production, including a fair wages of management. This 
power is not unlike the power to tax which is exercised by 
the state itself. By its means the favored few who con- 
trol monopolistic enterprises derive monopoly profits at the 
expense of the many. The magnitude of these profits, 
which under a system of free, all-sided competition would 
be diffused throughout the community in the form of 
cheaper commodities, is one circumstance that lends an 
interest to the monopoly problem. Another and equally 
important circumstance is the manifest injustice involved 
in permitting a few persons to enjoy incomes from which 
the many are debarred. For these and other reasons the 
monopoly problem is one of the most important practical 
questions with which economics has to deal. In the follow- 
ing sections the principal types of monopolies that are 
found in the United States, the grounds on which they 

351 



352 LEGAL AND NATURAL MONOPOLIES 

rest and the efforts that have been made to regulate and 
control them, are considered. Legal monopolies, as the 
simplest type, first merit attention. 

184. Public Legal Monopolies. — Legal monopolies, as 
already stated, may be either public or private. Public 
legal monopolies have been established for a variety of 
reasons. In Norway, moral considerations have led the 
Government to convert the liquor business into a public 
legal monopoly. The tobacco monopoly of France and 
the salt monopoly of Saxony are conducted for revenue. 
In Prussia the state has taken charge of the railway busi- 
ness, partly for revenue, but chiefly to insure reasonable 
and uniform rates to all shippers and ready control of 
transportation facilities in time of war or other public 
emergency. The chief public legal monopoly in the 
United States, the post-office, was undertaken with a view 
to facilitating and cheapening communication among dif- 
ferent sections of the country, and these objects have 
always been made more prominent than considerations of 
revenue. In fact it may be doubted whether at the pres- 
ent time desire for revenue would be accepted in any West- 
ern country having a representative government as in itself 
an adequate reason for making a business a public legal 
monopoly. In the United States, especially, public opin- 
ion is decidedly opposed to public monopolies managed 
merely for profit. The most common reasons for advocat- 
ing and defending public legal monopolies are that the busi- 
nesses under consideration require special regulation for 
the protection of public morals, as in the case of the liquor 
business, or that they are natural monopolies in which the 
public has a vital interest and that that interest will be 
better cared for through public ownership and operation 
than through private ownership, even under public con- 
trol. That these last reasons fully justify the post-office 
monopoly, with its ever ready response to public needs and 
constant subordination of considerations of mere profit to 



THE PATENT SYSTEM 353 

considerations of service, is universally conceded. The 
case is less clear for the other monopolistic businesses dis- 
cussed in later sections, which, though public in some 
countries, are still for the most part private in the United 
States. 

185. The Patent System of the United States.— Pri- 
vate legal monopolies are monopolies created by patents, 
copyrights or exclusive franchises granted by the appro- 
priate public authority. In the United States power to 
grant patents and copyrights is vested by the Federal Con- 
stitution in Congress, and this power has been exercised 
since early in the nineteenth century. Under the patent 
law now in force " any person, native or foreign, who has 
invented or discovered any new and useful art, machine, 
manufacture, or composition of matter, or any new and 
useful improvement thereof, not known or used in this 
country, and not patented or described in any publication 
in this or any foreign country, before his invention or dis- 
covery thereof, and not in public use or on sale for more 
than two years prior to his application, unless the same is 
proved to have been abandoned, may upon payment of the 
fees required by law and other due proceedings had, obtain 
a patent therefor." The Patent Office is a branch of the 
Department of the Interior. It employs over a hundred 
trained examiners, whose business it is to study the speci- 
fications submitted and satisfy themselves that the inven- 
tion or discovery for which a patent is sought falls within 
the requirements of the law. A patent gives to the in- 
ventor the sole right to manufacture and sell his inven- 
tion for seventeen years, unless it has been previously pat- 
ented abroad, when the United States patent expires with 
that granted by the foreign country. In the United 
Kingdom the life of a patent is shorter, being only four- 
teen years, but under certain conditions it may be renewed 
for seven or even fourteen years longer, so the practical 
difference between the two countries is not great. 



354 LEGAL AND NATURAL MONOPOLIES 

Three different arguments are advanced in favor of 
granting patents. The most familiar argument is that 
they foster invention and discovery by insuring to the in- 
ventor adequate reward for his trouble. Another common 
argument is that they induce inventors to make their dis- 
coveries public. The third argument, which applies to 
the more complex inventions of recent years, is that but 
for the protection which a patent affords, capitalists 
would be unwilling to risk their means in the development 
of new processes. There is doubtless reason in each one 
of these contentions and together they are usually accepted 
as sufficient justification for some kind of a patent policy. 
The present patent system of the United States is, how- 
ever, criticized on several grounds: (1) Some people deny 
that men who have a genius for invention and discovery 
require any special inducement to follow their natural bent. 
(2) Others point out that in practice those who reap the 
rewards of monopoly under our patent laws are more often 
business men and corporations, who acquire control of pat- 
ents and turn them to commercial account, than the in- 
ventors themselves. (3) It is urged that important in- 
ventions and discoveries are the joint products of many 
minds and that to reward unduly the lucky individuals 
who get first to the patent office is to disregard the serv- 
ices of other investigators. (4) It is maintained that 
many of the patents taken out are suppressed by those 
who have vested interests to protect and that in conse- 
quence, instead of promoting progress, our patent law 
actually retards it. (5) The fact that the present rapid 
progress in methods of production renders most processes 
and methods obsolete before they have been in use seven- 
teen years is emphasized, and it is asserted that for this 
reason improved processes are usually of little value to the 
public when the patents on them expire. 

In answer to the first of these objections it may be as- 
serted that while genius needs, perhaps, no incentive to 



THE PATENT SYSTEM 355 

follow its natural bent, talent does, and that the great 
majority of inventions and discoveries have been made not 
as strokes of genius, but by laborious study and ex- 
periment. Under these circumstances it can hardly be 
granted that inventors and discoverers are not influenced 
like other people by the expectation of financial return. 
To the second point it may be answered that in many cases 
making an invention commercially successful is as impor- 
tant a service as making the invention. For example, it 
would be difficult to decide in connection with the inven- 
tion of the steam engine whether Watt or his business 
partner, Boulton, deserved the more credit for the ultimate 
result. But for Boulton, Watt would almost certainly 
have died a broken-hearted " visionary " and his experi- 
ments with steam be remembered only by antiqua- 
rians. Nor is it true that any large proportion of in- 
ventors fail to get some return for their inventions when 
the latter prove to be commercially successful. They are 
apt to be men who are carried away by one success and 
who squander all they receive from one invention in the 
vain effort to impress upon the public the value of others. 
A patent law which would make all successful inventors 
die rich would need to modify human nature. The third 
criticism overlooks the real justification of a patent policy. 
No scheme could be devised that would reward inventors 
in proportion to their merits. All that can be done is to 
offer them a special stimulus, and this the present law 
does by giving the reward to him whose application for a 
patent is first received. 

The fourth and fifth objections point to two definite 
weaknesses in the present patent law of the United States : 
it permits the suppression of inventions, and it grants a 
monopoly for the same rather long period of years to all 
inventors, irrespective of the character of their inventions 
or the use to which they are put. It is easier to recog- 
nize these defects than to suggest satisfactory remedies. 



356 LEGAL AND NATURAL MONOPOLIES 

To cure the first, it has been proposed that the law require 
proof from the patentee that some use, which benefits the 
public, is being made of his patent within three or four 
years of the time when it is taken out, and that in the 
absence of such proof the patent be revoked. This plan 
has been tried in other countries and found to work sat- 
isfactorily. Various remedies have been suggested for 
the second defect. The Government might reserve the 
right to buy up a patent at an appraised valuation, when- 
ever this course seemed expedient. A decisive objection 
to this plan is that under our form of government there 
is little reason to think that such a right would ever be 
exercised. Another plan is to compel those owning pat- 
ents to share them with others on payment of a fair rental 
or royalty. The difficulty here would be to determine what 
a " fair " return might be. A third plan is to impose 
a progressive tax on patents, increasing year by year, 
with the provision that failure to pay the tax would work 
forfeiture of the patent right. Finally, it has been pro- 
posed to reduce the term for which patents shall be granted 
from seventeen to ten years and to follow the United King- 
dom in permitting renewals for five or ten years in cases 
where the public interest seems to require it. The last plan 
has the advantage of simplicity. It also meets more fully 
than any other single change proposed the objections 
urged against the present system, without itself being open 
to serious objection. 

Patents in the United States are the direct and indirect 
cause of large monopoly profits. Some of the more suc- 
cessful, such as the Bell telephone patent, have earned 
large fortunes for hundreds of different people and helped 
to build up monopolies which, when not controlled as regards 
their methods of doing business and rates of charge, have 
continued, long after the patents have expired, to yield 
large monopoly returns. Moreover patents have become 
so numerous of late years, being now issued at the rate of 



THE COPYRIGHT SYSTEM 357 

36,000 a year (1907), that they figure in nearly every 
branch of manufacturing enterprise. Nearly every one 
of the trusts organized in 1898 and 1899 controlled a 
larger or smaller number of patents and in the case of 
some of them, such .as the bicycle trust, the fact that all 
important patents were owned by the combination was 
urged as one of the surest grounds for its expected suc- 
cess. Important as are patents as a source of monopoly 
income, however, it would be easy to exaggerate the extent 
to which they lead to the suppression of competition. A 
large number of them are for the protection of rival proc- 
esses and serve to stimulate rather than to diminish com- 
petition among those employing the different methods. 
Only when a patented process is distinctly superior to all 
other known processes for effecting the same result does 
it give rise to an exclusive monopoly, and even such monop- 
oly is subject, of course, to the limitations which have al- 
ready been discussed. 

Besides granting patents, the United States Patent 
Office registers labels and trade-marks on receipt of a 
modest fee. The latter have been of importance chiefly 
in giving a solid basis to what is known as the " good 
will " of a business. A manufacturer who acquires a rep- 
utation because of the quality of his products may adopt 
a trade-mark to distinguish them from others. In the 
organization of the trusts, brands and trade-marks have 
been frequently recognized as among the valuable assets of 
the businesses to be absorbed. 

1 86. The System of Copyright. — The basis of copy- 
right, " the exclusive right to multiply for sale copies of 
works of literature or art," is similar to that of patent 
right, and the reasons for it are even more obvious. The 
period for a copyright in the United States is now twenty- 
eight years, but the author or his direct heirs have the 
privilege of securing a renewal for fourteen years more, 
so that the total period is forty-two years as in the United 



358 LEGAL AND NATURAL MONOPOLIES 

Kingdom. In comparison with the laws of other countries 
these provisions are none too liberal. In Mexico copy- 
right is perpetual. In Spain it continues eighty years 
after an author's death, in France fifty years and in Ger- 
many thirty years. 

Although the copyright law grants a monopoly for a 
longer period than the patent law, little if any fault is 
found with it because the monopoly is of such a limited 
character. Even with this protection, authors and artists 
as a class are far from enjoying excessive incomes and 
those who succeed in obtaining large monopoly profits from 
their products serve as a needed incentive to the great 
army who find it difficult to make even a living from their 
work. Instead of being criticized for being too liberal in 
its provisions, the American copyright law is attacked be- 
cause it does not extend the same protection within the 
United States to the works of foreign authors and artists 
which the latter enjoy at home. A discussion of this ob- 
jection would carry us too far from the subject of monop- 
olies and monopoly profits, but it certainly seems anom- 
alous for a country which protects nearly all industries 
which require it, to allow its authors and artists to be 
subjected to the competition of pirated editions and copies 
of the works of foreigners. The provisions of the Act 
of 1891, granting to foreigners on reciprocal terms the 
privilege of securing copyrights in the United States by 
having their books printed simultaneously in this country, 
remedies the evil only for the works of authors of estab- 
lished reputation. 

187. Natural Monopolies in the United States. — Of all 
forms of monopolies those which are most widespread in 
the United States are what we have styled natural monop- 
olies. Under this head are included monopolies of situa- 
tion, such as the anthracite coal combination and monop- 
olies of organization, such as municipal gas, electric 
lighting and street-railway companies, telegraph, tele- 



NATURAL MONOPOLIES 359 

phone, express and railway companies, and, in fact, all 
transportation industries except those which use the free 
public streets or free public waterways and enjoy no ad- 
vantage over other patrons of the same facilities. The 
importance of these businesses scarcely needs to be empha- 
sized. The anthracite coal strike of 1902 demonstrated 
conclusively the country's dependence upon that commod- 
ity. Its dependence upon monopolies of organization is 
even more pronounced. As industry is now organized 
the services rendered by transportation companies are in- 
dispensable to the business success of nine-tenths of the 
entrepreneurs in every community. Water, gas or elec- 
tric light and street-railway transportation have become 
necessaries of life to dwellers in cities. Quite as important 
is steam-railroad transportation. Without it farmers 
and manufacturers would be deprived in large measure of 
the markets for their goods and compelled to turn their 
attention to production for the gratification of their own 
wants or to supply the restricted local markets that could 
be reached through other means of transportation. The 
conviction that the transportation businesses enumerated 
are not adequately regulated by competition is only grad- 
ually taking shape in the public consciousness. For this 
reason a good deal of attention is given in the following 
sections to the explanation of the circumstances which 
make these businesses natural monopolies and therefore 
proper objects of legal regulation and control. Natural 
monopolies of situation and municipal monopolies of or- 
ganization are discussed in this chapter ; in the next the 
most important national monopolies of organization re- 
ceive consideration. 

1 88. Natural Monopolies of Situation: The Anthracite 
Coal Combination. — The only natural monopoly of situa- 
tion that has thus far assumed national importance in the 
United States is the so-called " anthracite trust." The 
anthracite coal combination has been rendered possible by 



360 LEGAL AND NATURAL MONOPOLIES 

the limited area within which anthracite coal is found. 
The whole field is less than 500 square miles in extent and 
fully nine-tenths of the product comes from the five 
Pennsylvania counties located near the headwaters of the 
Schuylkill and Lehigh rivers. Into this limited territory 
nine railroads have extended their lines and now serve, with 
the canals which they control, as the sole means of trans- 
porting the product from the mines to the country's cen- 
ters of population. As long ago as 1871 the railroads, 
under the leadership of the Reading, adopted the policy of 
buying up coal lands with a view to securing an assured 
share of the coal traffic. It has taken them many years 
to acquire control of the industry and to agree among 
themselves as to the manner in which it should be con- 
ducted. First, it was necessary for them to enter into 
traffic agreements among themselves that would prevent 
independents from securing discriminating rates on the 
basis of which they might undersell the railroad coal com- 
panies. This being accomplished, the next step was to 
raise freight rates to a point that would make the coal 
business relatively unprofitable to independent producers 
and induce them to sell out to the railroads on moderate 
terms. The same rates were charged railroad and inde- 
pendent coal companies and this made it difficult for the 
latter to prove that they were being treated unfairly, 
although it was obvious that from the point of view of 
the railroads it was immaterial that their collieries were 
making small profits so long as they themselves were pros- 
pering. As a result of these policies the coal holdings of 
the railroads were year by year extended at the same time 
that their conflicting interests were gradually, through 
consolidations and community of interests arrangements, 
brought into greater harmony. When the anthracite 
miners' strike of 1900 was declared (September 17), con- 
ditions were ripe for a few final moves in the game of 
combination. In December of that year J. P. Morgan 



THE ANTHRACITE COMBINATION 361 

& Co. negotiated, for the Erie Railroad, the purchase of 
the Pennsylvania Coal Company, one of the largest and 
most successful of the independent producers, and in this 
way defeated a project for building an independent rail- 
road from the coal region to tide-water. In January, 
1901, the Central Railroad of New Jersey was purchased 
through the same influence and turned over to the Reading 
Railroad. The effectiveness of these changes in consoli- 
dating the monopoly was shown by the fact that the higher 
price for anthracite coal, which was the natural conse- 
quence of the strike of 1900, was continued and even in- 
creased in 1901 and 1902, to the profit of the railroads. 
According to a reliable estimate the railroads controlled 
in 1901 some 96 per cent of the anthracite deposits and 
actually owned over 90 per cent. The dependence of the 
individual operators who remain in the field upon the coal 
roads for access to the markets insures in ordinary times 
their acceptance of any agreements which the managers 
of the latter may enter into for the common benefit. At 
the present time, November, 1908, the anthracite coal com- 
bination and the different railroads that compose it are 
the defendants in a suit instituted by the Attorney General 
of the United States charging a violation of the federal 
anti-trust act. While, to the lay mind, there is every 
indication, not only that the coal combination exists, but 
that its price-making power is limited only as is that 
of every other monopoly, by the presence of substitute 
commodities, such as bituminous coal, wood, petroleum and 
gas, there is yet some doubt as to the outcome of this suit. 
The only bond which holds the combination together is a 
secret " gentlemen's agreement," the terms of which have 
thus far been successfully concealed from the courts. Un- 
less these terms can in some way be established as legal 
evidence the Government will probably fail in its prosecu- 
tion of the combination. Whatever the outcome of the 
suit, however, it can hardly be questioned that so long as 



362 LEGAL AND NATURAL MONOPOLIES 

the agreement is adhered to the economic result will be the 
same as though all the roads were owned by a single cor- 
poration. The situation illustrates some of the difficulties 
that oppose attempts at the suppression of natural mo- 
nopolies by law. 

Opinion is divided as to whether in future years the 
opportunity open to consumers to substitute other articles 
will serve as a sufficient check on the anthracite coal mo- 
nopoly or whether legal interference will be necessary if 
the interests of the public are to be protected. Without 
attempting to decide the question, we may lay it down as 
a general principle that the Government has not only the 
right, but the duty, to regulate a natural monopoly like 
the anthracite coal combination when it appears that 
such a business is taking advantage of its position to 
charge exorbitant prices for the commodity it controls. 

Some of the more important industrial combinations, 
such as the Standard Oil Company and the United States 
Steel Corporation, have undertaken to acquire control of 
the sources of supply of the raw materials they use. In 
neither case has this development gone far enough to jus- 
tify the characterization of these businesses as natural 
monopolies of situation, but that their managers are con- 
sciously directing them towards this goal seems apparent. 
The future alone can tell whether the sources of supply 
of such widely distributed materials as petroleum, iron 
ore and coking coal can actually be controlled by single 
corporations. To the extent that they may be, the trusts 
referred to may become natural monopolies of situation 
instead of mere capitalistic monopolies. 

189. Natural Monopolies of Organization: Water, Gas 
and Electricity. — The second class of natural monopolies 
embraces all businesses whose expenses of production show 
a steady tendency to fall as the size of the business grows. 
Between such businesses competition can have but one re- 
sult, combination, and monopoly once established can 



MONOPOLIES OF ORGANIZATION 363 

maintain itself indefinitely because it can conduct its 
large-scale operations more cheaply, and therefore sell 
more cheaply, than any small-scale competitor that may be 
tempted into the field. 

The transportation and delivery of water to each house 
in a city is a business of this kind. It is too obvious to 
require discussion that one company having one large 
supply pipe and smaller individual pipes for each house 
can supply water to a single street more economically 
than two or more competing companies. It is almost 
equally obvious that one company can supply the water 
for several adjacent streets more cheaply than competing 
companies each having a street to itself. In order to 
pump and store water economically it is necessary to do it 
on a larger scale than is open to a water company which 
supplies houses on a single street. As regards this part 
of the business, economical production requires that the 
whole of a city of less than 500,000 inhabitants should 
be supplied by one company and that proportionately 
large sections of larger cities should be so supplied. But 
the mechanical is only one side of the business. When in 
addition are considered the economies in expenses of ad- 
ministration open to the larger plant, the saving due to 
the smaller excess storage capacity required when a short- 
age of water from one source can be balanced by larger 
supplies from other sources and all the other possible 
economies of combination, the reasons for characterizing 
the business of supplying water in cities as a natural mo- 
nopoly of organization become clear. 

Quite similar to the case of a water company are the 
cases of gas and electric-lighting companies. They also 
use main supply pipes or wires and must control all the 
business in a large section of a city in order to be con- 
ducted most economically. Moreover, for them the saving 
in the expenses of administration that can be effected as 
the company expands is of the utmost importance because 



364 LEGAL AND NATURAL MONOPOLIES 

their businesses are more complex. Few familiar with 
these businesses deny that they are natural monopolies in 
the same sense as the water business, or think that com- 
petition can regulate them, except that indirect competi- 
tion which consumers themselves set up between gas, elec- 
tricity and petroleum as means of lighting dwellings. 
When, as is frequently the case, the same set of men con- 
trol the municipal gas monopoly and the electric-light 
monopoly, even this competition becomes a rather unreli- 
able dependence. 

190. The Street-Railway Monopoly. — The street-rail- 
way business has many features in common with the busi- 
nesses just described. A street-railway company must 
also have a monopoly at least of the single street on which 
its cars run, partly because of the useless duplication of 
plant that would result if a rival company were maintained 
and partly because of the physical limitations of the street 
itself which makes even one set of tracks a serious incon- 
venience to the public. Rival companies may be chartered 
to run cars on adjacent streets, however, and this was the 
usual first step in the history of the relations between 
municipalities and street-railway companies in the United 
States. For a time companies operating parallel lines 
may compete, but their competition, as experience has 
demonstrated over and over again, always ends in consoli- 
dation. Each company has to have its full equipment of 
tracks, feed barns or power houses, cars, etc., and the 
most expensive of these items stand as fixed and necessary 
charges, irrespective of the volume of business which the 
company handles. Suppose that two rival companies be- 
gin by halving the business for the section of the city 
which they serve. If their tracks are but a square apart 
a very slight advantage in favor of either will divert to 
it passengers from the other. This consideration may 
lead one to lower its fares ; but this is a game at which two 
can play with about equal success and its sure consequence 



THE STREET-RAILWAY MONOPOLY 365 

is loss of profits for both competitors. Realization of this 
fact comes quickly and causes a first step towards consol- 
idation, an agreement as to rates of fare. 

But there are other ways in which passengers may be 
attracted from a rival line. If the companies start as 
horse-car lines, as did the street-railway companies of all 
the older cities of the United States, superior manage- 
ment will show itself in quicker service. Every passenger 
drawn to the better line will add nearly his entire fare to 
its profit account — since the fixed charges are relatively so 
large and the running expenses, which alone increase with 
the number of passengers carried, relatively so small — 
and will, for the same reason, deduct nearly his entire 
fare from the profit account of the rival company. The 
successful competitor has thus a larger and larger profit 
fund with which to improve still further the quality of 
its service, while the other company is forced by falling 
profits to enter upon a policy of retrenchment and econ- 
omy which will drive away still more of its customers. 
The inferior company may struggle on and pay small div- 
idends so long as both lines use the same sort of power, 
but the introduction of the cable or trolley system by the 
superior line is likely to draw away so many of the pas- 
sengers of the other that it is driven into bankruptcy — 
or consolidation with its rival. This in brief is the story 
of the street-railway business in the cities of the United 
States. Its chapters have become so familiar to street- 
railway managers that they now usually take a short cut 
to consolidation as soon as a rival company is chartered 
to run on streets parallel to their own lines. Only in case 
the organizers of the new company demand too high 
terms is the experiment of competition actually tried 
and the question decided, as in the medieval trial by 
combat, which contestant is to absorb the life of the 
other. 

The advantages of consolidation in the street-railway 



$66 LEGAL AND NATURAL MONOPOLIES 

business are similar to those enumerated in connection 
with other natural monopolies. (1) The fixed plant may 
be more fully and more economically utilized. Thus, cars 
may be run only over the streets that are most conveni- 
ently situated for traffic, power stations may be placed 
more advantageously and the rolling stock may be better 
adapted to the tastes of different classes of patrons, new 
cars being used on fashionable streets and old equip- 
ment worn out where it will excite least criticism. (2) Su- 
perior ability may be employed in each department and 
specialization may be carried further. (3) Improved ap- 
pliances may be experimented with and introduced more 
readily than by smaller competing companies. As regards 
the street railway, then, as as regards the businesses of 
supplying water,' gas or electricity, the conclusion seems to 
be justified by theory and confirmed by experience that mo- 
nopoly is the natural, inevitable and economically desirable 
form of organization. 

19 1. The Telephone Monopoly. — The next most impor- 
tant municipal monopoly, the telephone business, owes its 
form of organization to somewhat different circumstances. 
Unlike the business just described it is not subject to the 
law of decreasing expense. On the contrary electrical 
engineers maintain, and with apparent reason, that the 
larger the number of subscribers served through one ex- 
change the larger is the expense per subscriber of render- 
ing the service. This is because the exchange stations 
must be so arranged that each new subscriber — or group 
of subscribers where party lines are used — may have his 
wire connected readily by each of the many operators re- 
quired in a large office with that of every other subscriber. 
If one operator is able to attend to the calls of fifty sub- 
scribers and the office serves one thousand, this necessitates 
twenty different terminals at the exchange for each wire. 
If the number of subscribers doubles, each separate wire 
must be let in at forty points. If five thousand sub- 



THE TELEPHONE MONOPOLY 867 

scribers are to be served, each wire must have one hundred 
distinct terminals. In this way the expense at the central 
office increases by multiplication rather than by addition. 
For five thousand subscribers not five times, but twenty- 
five times as many connections are needed as for one thou- 
sand. Nor is there the saving of expense outside the 
central office in the telephone business that is to be found, 
for example, in connection with electric-lighting. For the 
best service it is necessary to have a distinct wire for each 
new subscriber. Fair service can be given to two parties 
on the same line. Four-party lines are less satisfactory. 
Lines serving more than four have been found to work so 
badly that they are now little used in cities. Thus as 
regards outside wiring the expense grows uniformly with 
the number of subscribers. There are, of course, on the 
other hand, economies in administration, etc., which re- 
sult from an increase in the number of subscribers and 
which must be taken into account. On the whole it ap- 
pears to be true, however, that increasing rather than 
diminishing expense is the law of growth in the telephone 
business. 

Monopoly resulted in this business at the outset from 
the patent, which until 1895 gave the Bell companies the 
exclusive right to meet the need that the telephone soon 
came to fill. Since 1895 the monopoly has been main- 
tained in many cities in consequence of the unwillingness 
of the public authorities to grant franchises to new com- 
panies. In other localities, and especially throughout the 
Middle West, rival companies have started up and compe- 
tition has been an active influence in determining charges 
and quality of service. The fact that the business is 
subject to the law of increasing expense is favorable to 
the perpetuation of this competition. The consideration 
that opposes it is that, assuming equally prompt connec- 
tions, the convenience of the community is better served by 
one large company than by two or more smaller ones. 



368 LEGAL AND NATURAL MONOPOLIES 

The larger the company the larger the number of persons 
with whom each subscriber may converse. One company 
controlling a city's entire business can put each of its 
subscribers into communication with every other person in 
the city who has a telephone. Two or more competing com- 
panies cannot do this. Their service may be cheaper 
but it cannot be as extensive. In the telephone business 
then, considerations of expense make for the survival of 
the smaller companies and the perpetuation of competi- 
tion; considerations of convenience make for combination 
into a single company and for monopoly. For the above 
reasons there is still difference of opinion among tele- 
phone experts as to whether the business should be classed 
as a natural monopoly of organization or not. We have 
so classified it because, the country over, competition in 
the business is the exception rather than the rule. 
Whether this is because the business started as a legal mo- 
nopoly or because it is monopolistic in its very nature 
time will determine. 

192. The Solution of the Municipal Monopoly Prob- 
lem. — The usual first impulse of the student of the munici- 
pal monopoly problem is to advocate municipal ownership 
and operation as a remedy, and there is much to be urged 
in favor of this policy. Monopolies by their very nature, 
concerned with services in which the whole people have a 
vital interest and limited in the scope of their operations 
to the particular town or city which they serve, these 
businesses, if any, it would appear, should be undertaken 
by municipal governments as branches of the public ad- 
ministration. Yet the objections to such a policy for the 
cities of the United States are very strong. The argu- 
ments on either side must be weighed in connection with the 
local conditions affecting the problem. Only in this way 
can a wise decision be arrived at. 

The advocates of public ownership claim the following 
advantages for that policy: (1) The quality of the serv- 



MUNICIPAL MONOPOLIES 369 

ice rendered hy a branch of the public administration is 
likely to be superior to that resulting from private enter- 
prise. (2) The desire for profit being removed, the 
charges under public ownership will be adjusted to the 
expense of rendering the service. From this it is argued 
that charges will be low and the widest use of these essen- 
tials to civilized existence will be encouraged. (3) The 
corrupting influence of unscrupulous corporations anxious 
to retain or to have extended their franchise privileges will 
be removed from city politics. (4) Enlarging the scope 
of municipal activities will enlist in the service of the city 
more and better officials. At the same time it will increase 
intelligent interest in public affairs and tend to elevate 
the tone of political life. This argument assumes, of 
course, that the new departments of the municipal gov- 
ernment will be subjected to adequate civil service regula- 
tions. (5) Experience, it is claimed, has shown that noth- 
ing short of public ownership and operation of these busi- 
nesses can secure the degree of control necessary to the 
safeguarding of the public interests. 

In support of private ownership and operation the fol- 
lowing considerations are urged in rebuttal: (1) There 
is no ground for assuming that the service rendered by the 
municipal government will be better than that rendered 
by private enterprise. On the contrary, if experience is 
to be relied upon, municipal governments will inflict on 
the public water, gas, etc., of qualities that would not be 
tolerated from private companies organized for profit. 
(2) The inefficiency characteristic of municipal activity 
is certain to show itself in high expenses of operation. 
These higher expenses may necessitate higher charges 
than are required under private management even to 
afford liberal monopoly profit. (3) At the present stage 
of political development, public ownership and operation 
would mean simply more spoils for politicians. In its 
practical effects it would be even more demoralizing, polit- 



370 LEGAL AND NATURAL MONOPOLIES 

ically, than the corrupt influence of private corporations 
complained of. (4) Private ownership is more progres- 
sive than public management. Though temporary advan- 
tages might result from public ownership, it is argued 
that this policy would sacrifice the public interest in the 
long run by checking improvements. (5) It is denied 
that adequate legal regulation and control of private 
companies may not be secured when the community is 
really alive to its own interests. Given care in the draft- 
ing of franchises and insistence that these shall lapse 
after a limited time, more satisfactory results may be 
realized, it is claimed, under private than under public 
ownership. 

These arguments, it will be seen, are partly contradic- 
tory and partly related to unconnected phases of the prob- 
lem; their mere statement emphasizes the necessity of 
studying local conditions before declaring for either pub- 
lic or private ownership. In general, it is probably true 
that the quality of the service can be more easily con- 
trolled under public than under private management. 
Where quality of service is all-important, as in the case 
of the water supply, this furnishes an argument for the 
former which is not found, for example, in connection with 
the telephone business. On the other hand, where the 
methods of operation are in process of rapid improve- 
ment, as in the case of the telephone business, the superior 
progressiveness of private management is an argument on 
that side that is not found in connection with the business 
of supplying water. More striking even than differences 
between the different businesses are the differences between 
the political preparedness of different localities for public 
ownership. In certain New England towns, where public 
spirit is highly developed, these services may be and have 
been undertaken with success. In other towns of the same 
size in other sections, in which civic self-consciousness is 
just beginning to manifest itself, attempts to perform 



REGULATION OF MUNICIPAL MONOPOLIES S71 

them through the town governments have frequently re- 
sulted in failure. 

In the United States, up to the present time, there has 
been a marked tendency to rely upon private initiative and 
private enterprise for the performance of these, services, 
as of other services of an industrial character. The only 
important exception has been in connection with the busi- 
ness of supplying water to dwellers in towns and cities, 
and this has been undertaken by municipal governments 
less because of any distrust of private enterprise in this 
field than because good water has been demanded by pub- 
lic opinion even before the business of supplying it gave 
promise of proving financially successful. On the other 
hand, abroad, and especially in Germany, the preference 
is for the public ownership and operation of businesses of 
this type. Where the conditions are sufficiently similar 
to admit of comparison, something may be learned by a 
study of the results of the different systems in different 
lands, but, unfortunately, conditions in the United States 
are quite unlike those in any European country, and it 
appears to be the rule that those who apply the compara- 
tive method to this problem prove, at least to their own 
satisfaction, just about what they hoped to establish when 
they began their inquiry. 

193. Methods of Regulating Municipal Monopolies. — 
If, after carefully weighing the advantages and disad- 
vantages of municipal ownership and operation, a com- 
munity decides against their adoption, the alternative is 
by no means the unregulated private ownership and 
operation encountered in most American cities. For 
these monopolies, especially, public regulation and con- 
trol are indispensable to the protection of the public 
interest. To determine how this control shall be exer- 
cised, whether by board, commission or single administra- 
tive officer, is a problem for students of politics rather than 
of economics, but the following general principles may 



Sn LEGAL AND NATURAL MONOPOLIES 

be suggested : ( 1 ) Such businesses are natural monopolies, 
and nothing is to be gained by attempting to subject them 
to the control of competition. Exclusive franchises should 
be granted to the companies entrusted with them. (£) 
These franchises should be limited to a definite term of 
years. The term must be long enough to encourage that 
investment of capital that is indispensable to efficient 
service, but not so long as to commit the municipality tj 
high charges when changed conditions may make lower 
charges profitable. When the term expires the franchise 
should revert to the municipality and it should have the 
privilege of acquiring for itself or for a new company, at 
a fair valuation, the plant and equipment of the old com- 
pany, in case its charter is not extended. (3) The speci- 
fications in the charter should be carefully drawn by ex- 
perts so as to insure, at least at the outset, the best quality 
of service at reasonable rates. Charters should be granted 
like other Government contracts to the responsible bidder 
offering the most favorable terms, and every effort should 
be made to advertise widely the provisions of the charter, 
and to prevent collusion between those who make bids. 
Space will not permit detailed discussion or defense of 
these principles. Although stated dogmatically, it is be- 
lieved that they represent the consensus of opinion among 
students of public-service corporations who recognize them 
as monopolies and yet hesitate to advocate for them mu- 
nicipal ownership and operation. 

It is one thing to lay down general principles and quite 
another to carry them out in practice. Only of late years 
has public opinion in the United States been sufficiently 
enlightened on the subject of municipal monopolies to de- 
mand any sort of adequate control and regulation, and 
in the meantime all sorts of abuses have been permitted. 
Perpetual charters have, in many cases, been granted on 
terms which permit the companies operating under them 
to disregard completely the interests of the public. Worse 



CONCLUSION 373 

than all, public-service corporations have come to exert an 
influence on political parties, through contributions to 
campaign funds, and on public officials, through powerful 
and unscrupulous lobbies, which opposes a serious obstacle 
to efforts to control them through political means. Neg- 
lect of the question has brought about a state of affairs 
in which each community is confronted by a special prob- 
lem, modified by local conditions, and must proceed as 
best it may to gain the mastery over the corporations 
which it has so carelessly created and allowed to grow to 
overweening power and influence. In dealing with such 
corporations vested interests must be respected, but it 
must not be forgotten that the true interest of the whole 
community is more important than that of a particular 
class in the community, and that every great reform of 
necessity inflicts hardship upon some individuals. It is 
the duty of the Government to indemnify those who are 
injured by changes which are deliberately undertaken with 
a view to the general welfare, but it is even more its duty 
to make such changes. The reform and the desirability 
of the reform should be the predominant considerations, the 
indemnification an incidental accompaniment neither to be 
exaggerated nor lost sight of. Only thus can progress 
towards a better economic and political organization of 
society be realized. 



REFERENCES FOR COLLATERAL READING 

* Le Rossignol, Monopolies, Past and Present (bibliography) ; 
Bemis, Municipal Monopolies; * Ely, Problems of To-Day, Chaps. 
XVII.-XXL; * Darwin, Municipal Trade: The Advantages and Dis- 
advantages; * Howe, The City for the People; Spiers, The Street 
Railway System of Philadelphia; Heilman, Chicago Traction, a Study 
of the Efforts of the Public to Secure Good Service; Report of Com- 
mittee of National Civic Federation on Public Service Corporations. 



CHAPTER XXI 

THE RAILROAD PROBLEM IN THE 
UNITED STATES 

194. National Monopolies of Organization. — In addi- 
tion to the municipal monopolies discussed in the last 
chapter there are businesses, national in their scope, which 
should also be classed as natural monopolies of organi- 
zation. The principal are the telegraph, the long-distance 
telephone, the express and the railroad businesses. For 
them, as for municipal monopolies, the fixed charges are a 
chief item of expense. Thus a telegraph or long-distance 
telephone company, whether large or small, must maintain 
offices in and connecting wires between the principal cen- 
ters of population or it will have few patrons. In com- 
parison with the cost of this necessary equipment the ex- 
pense of receiving and sending messages is small. It fol- 
lows that one company utilizing fully its permanent plant 
can conduct all of the business more economically than can 
two or more companies needlessly duplicating plants. In 
the express business the situation is similar as regards 
terminal offices, although the tendency towards combina- 
tion and monopoly is less marked than in the telegraph 
business, because the actual transportation of goods is 
effected by railways acting as agents. These circum- 
stances make monopoly the economical form of organiza- 
tion for each one of these businesses. That no one of 
them has yet become an open monopoly in the United 
States is no disproof of this assertion. Public hostility 
to monopoly is so familiar and finds such frequent expres- 
sion in legislation and the decisions of the courts, that 

374 



THE RAILROAD BUSINESS MONOPOLISTIC 375 

business managers are careful to maintain the forms of 
competition even after the substance has departed. 

195. Circumstances Making the Railroad Business 
Monopolistic. — The railway business exhibits on a larger 
scale similar conditions to those found in the telegraph 
business. Roadbed and terminal facilities represent heavy 
fixed charges that must be met, no matter how small the 
volume of business. The more fully these can be utilized 
in carrying on a dense traffic the smaller will be the ex- 
pense for each unit of traffic. It follows that competi- 
tion for business among long-distance railways partakes 
of the same life-and-death character that was described in 
connection with street railways. When one road gains an 
advantage and begins to swell its profits by drawing from 
the profits of the other company, the situation of the latter 
is very soon rendered desperate. It has to choose between 
combination with the other road on its own terms and 
bankruptcy, and either choice, as American experience has 
shown over and over again, means in the end combination 
and monopoly. " A railroad is thus," to quote from one 
of the Reports of the Interstate Commerce Commission, 
" essentially a monopoly. This is literally true as to all 
local points upon its line which are reached by it alone." 
And it is virtually true, as the report adds by implication, 
even of " competitive points," since the rates at such points 
are now fixed quite generally by agreements among the 
nominal competitors. 

196. Progress toward Concentration in the Railroad 
Business in the United States. — The progress toward 
concentration of railway control in the United States has 
been marked by three distinct stages. In the earlier 
period the railways were looked upon as beneficent agencies 
meriting generous public support and full confidence. 
Consolidations were regarded with indifference, if not with 
favor, and the business was permitted to develop in the 
direction of monopoly as rapidly as its nature dictated. 



376 THE RAILROAD PROBLEM 

About 1870 it began to be appreciated that the power of 
the railways for evil was quite as great as their power 
for good. The cry of extortionate rates and monopoly 
was raised, especially in the agricultural States of the 
Middle West, and an era of drastic restrictive legislation 
was inaugurated. For fifteen years the States tried to 
deal with the railway problem through State laws and 
State railway commissions armed with sweeping powers. 
The chief result of their efforts was to educate public 
opinion as to the real nature of the railway business and 
to prepare the way for Federal interference. Incidentally 
they forced some of the roads into bankruptcy, and com- 
pelled all of them to substitute secret for open methods for 
securing the centralization of control that continued to be 
desirable. In this second stage secret agreements in re- 
gard to rates were substituted for competition. The ease 
with which such agreements might be violated suggested 
that to them be added definite understandings in reference 
to the division of the traffic among nominally competing 
roads. The entire business was " pooled " and then 
divided up in an agreed proportion among the com- 
panies entering into the pool. As one provision of these 
pooling agreements guaranteed to each road its propor- 
tion of the revenue from the joint traffic, whether it carried 
its exact proportion of the freight and passengers or not, 
the inducement to rate-cutting on the part of individual 
roads was removed, and the stability of rate agreements 
was proportionately strengthened. Such " pools " became 
very common after 1880 and served to create combina- 
tions and monopolies on behalf of the roads entering into 
them as effective, while they lasted, as though the roads 
were under one management. In consequence, they be- 
came special objects of attack on the part of those who 
still believed in competition as a remedy for excessive rail- 
way rates. When the Interstate Commerce Act was 
passed, in 1887, one of its clauses expressly forbade " pool- 



RAILROAD CONSOLIDATIONS 377 

ing." The Federal Anti-Trust Act of 1890, as inter- 
preted by the United States Supreme Court, went even 
further, and prohibited all agreements in regard to rates. 
In consequence of these two measures railroad managers 
have been compelled during the third period of railroad 
development to look for other means to harmonize con- 
flicting interests and secure the desired centralization of 
control. Among such means the most common have been 
the acquisition by one road of control over others through 
stock-ownership, the combination of two or more roads in 
holding companies owning sufficient stock in each to con- 
trol them and the development of a u community of inter- 
ests " among railroads through stock-ownership on the 
part of one or more of them in the others f ailing short of 
control. In these different ways centralization of control 
has been extended to embrace a constantly growing pro- 
portion of the railroad mileage of the United States. 
Thus, while in 1890 less than half of the total mileage of 
the country was operated by companies controlling 1000 
miles of line or more, by 1900 more than 60 per cent was 
so controlled. At the beginning of the new century there 
were indications that progress in this direction would go 
forward at an accelerated rate. In the year 1901 alone 
three great combinations were consummated: the Penn- 
sylvania Railroad acquired a large interest in the Balti- 
more and Ohio, the Union Pacific acquired control of the 
Southern Pacific and the Northern Securities Company 
combined the Great Northern and the Northern Pacific 
just after the latter had acquired the Chicago, Burlington 
and Quincy. The last of these consolidations was de- 
clared illegal by the Supreme Court but without, appar- 
ently, interfering with the unified control which it was de- 
signed to establish on a secure legal basis. The decision 
against the Northern Securities Company (1903) pre- 
vented the consummation of other plans of consolidation 
that were under consideration at the time it was rendered, 



378 THE RAILROAD PROBLEM 

but community of interests arrangements have continued 
to be made with the result that there is greater harmony, 
that is, less aggressive competition, among the great rail- 
road systems of the country to-day than at any previous 
period. This does not mean necessarily that rates are 
higher than formerly, although the Interstate Commerce 
Commission secured a good deal of evidence indicating 
that they were raised by joint action on the part of the 
railroads of the country from January 1, 1900, to Jan- 
uary 1, 1902. The railroad is still restrained in its rate- 
making by all of the considerations enumerated in the sec- 
tion discussing the limitations on monopoly (Section 76), 
and happily the railroad business is of such a nature that 
low rates and a large volume of traffic are usually much 
more profitable than high rates and a smaller amount of 
business. It does mean, however, that the time has passed 
when competition among railroads can longer be relied 
upon to control the policies of railway managers. 

197. Discrimination in Railway Rates: Among Com- 
modities. — The first attacks upon the railroads, in the 
Granger legislation of the decade from 1870 to 1880, were 
based on the charge that their rates were extortionate, 
but it is now generally recognized that a more serious evil 
in connection with them is discrimination. This may be 
of three kinds: First, freight classifications may be made 
in such a way that particular commodities are discrim- 
inated against. For example, it has been charged against 
the railroads carrying wheat from the Middle West to 
the sea-board that they make rates on wheat so low in 
comparison with their rates on flour that the millers of 
Minneapolis and Duluth can no longer produce for ex- 
port. The determination of the rates that shall be 
charged on different commodities presents one of the most 
difficult problems in the whole range of railroad practice. 
In general, the policy of railroad managers is so to 
classify articles that each shall pay as high a rate as " the 



DISCRIMINATION AMONG COMMODITIES 379 

traffic will bear." The more valuable the commodity, in 
proportion to its bulk, the higher, ordinarily, the rate it 
can afford to pay. On this ground the highest rates 
apply usually to costly finished commodities, and the low- 
est to staple materials. It is obvious that within the limits 
of this general plan there is wide range for variation, and 
that the railroad manager who wishes to favor the devel- 
opment of one industry at the expense of another, or of 
one locality at the expense of a rival or of one firm in op- 
position to its competitors, may do so in many cases merely 
by changing the rates on the articles to be affected. 

More serious, because more far-reachirtg in its conse- 
quences, is the second form of discrimination — that among 
places. Under present conditions no community lives to 
itself alone. Most communities produce chiefly for export 
to other localities and rely on other localities for most of 
the commodities needed to gratify home wants. As a rule, 
the railroad is the agency through which the exportation of 
surplus products and the importation of needed products 
in exchange are effected. It has still at certain points com- 
petitors in the public highways and in canals and water 
routes, but for ninety out of every one hundred com- 
munities in the United States the services of the railroad 
are indispensable to industrial prosperity, if not to indus- 
trial existence. Under these circumstances the power of 
railroads to stimulate or retard the prosperity of centers 
of population can hardly be exaggerated. By granting 
low rates they can transform even unpromising sections 
into busy seats of agriculture, manufacturing or mining. 
High rates may have an equally deadening effect upon 
sections that were previously prosperous. 

In general, the interest of the railroad is served by en- 
couraging the growth of centers of population where the 
natural conditions are most favorable, but it often hap- 
pens that special reasons lead to quite a different policy. 
One such reason is the necessity of sharing traffic with 



380 THE RAILROAD PROBLEM 

other transporting agencies at competitive points. If 
high rates are asked at such points, the temptation to 
break traffic agreements in order to obtain a larger share 
of the business is too strong to be resisted. Hence low 
rates usually prevail where two or more roads serve the 
same community, and railroad managers are only too apt 
to charge high rates at intermediate points. Local rates 
were so high when the Interstate Commerce Act was passed 
in 1887 that a special clause, known as the " long and 
short haul provision," was inserted to protect local ship- 
pers. This provides that the rates between intermediate 
points on the same road must not exceed rates between 
terminal points. Another reason for discrimination among 
places is the special interest which the railroad or 
its managers may have in the development of particular 
localities. It has not infrequently happened that railroad 
managers who have acquired large tracts of land in par- 
ticular sections have deliberately lowered freight rates for 
such sections in order to attract settlers to them and in 
this way enhance the value of their holdings. The demor- 
alizing consequences of such unjust practices have been 
experienced too frequently in all parts of the United 
States to require emphasis. 

198. Discrimination Among Persons. — The third and 
worst form of rate discrimination is that among persons. 
The motive for such discrimination is inherent in the nature 
of the railway business. Unlike the farmer or the manu- 
facturer, the railroad manager cannot calculate what it 
costs him to carry additional freight or additional passen- 
gers. His fixed charges must be met in any case. The 
additional expense connected with additional traffic is so 
small that almost any rate for the particular traffic will 
prove profitable so long as the open rate for other traffic 
is maintained. " Generally speaking," to quote again the 
language of the Interstate Commerce Commission, " he 
feels that he must have the traffic. His road is there, and 



DISCRIMINATION AMONG PERSONS 381 

it can be used for nothing else. The property with which 
he stands charged may be seriously injured without that 
particular traffic, and he must get it when it is moving. 
He cannot lie idle for better prices or more prosperous con- 
ditions. There is, therefore, a constant temptation to 
obtain it at any cost. Now, the rates between two com- 
petitive points have been published. The manager of one 
road finds that business has abandoned his line, and he 
believes that it is moving by a rival route. He can draw 
but one inference, and that is, that his competitor has 
secretly reduced the rate. Under these circumstances 
what shall he do? Shall he maintain the published rate 
and thereby abandon business? But that means disaster 
to his road, the loss of his reputation as a manager, and 
ultimately of his employment. What most managers 
actually do is to get the business by making whatever rate 
is necessary." * 

It may be said that railroad managers have no more 
reason to deal unequally with different customers than 
managers of other businesses ; but this is, unfortunately, 
not the case. A situation which frequently confronts a 
manager was described by Mr. C. M. Wicker of Chicago, 
in testimony given before an investigating committee of 
the Illinois legislature. He said : " Here is quite a grain 
point in Iowa, where there are five or six elevators. As a 
railroad man I would try and hold all these dealers on a 
level keel, and give them all the same traffic rate. But 
suppose there was a road five or six miles across the coun- 
try and all these dealers should begin to drop in on me 
every day or two and tell me that the road across the 
country was reaching within a mile or two of our station 
and drawing to itself all the grain. You might say it 
would be the right and just thing to do to give all the five 
or six dealers at the station a special rate to meet that 
competition through the country. But, as a railroad 
* Twelfth Annual Report (1898), p. 18. 



382 THE RAILROAD PROBLEM 

man, I can accomplish the purpose better by picking out 
one good, smart, live man, and, giving him a concession 
of three or four cents a bushel, let him go there and scoop 
the business. I would get the tonnage, and that is what I 
want, but if I give it to five it is known in a very short 
time." For such reasons railroad managers usually pre- 
fer to deal with one rather than with a number of ship- 
pers. The discriminating rate must be kept secret or 
other shippers will be dissatisfied, and secrecy is only pos- 
sible where knowledge of the transaction is confined to the 
manager and the favored shipper. Nor are shippers 
themselves entirely passive in connection with discrimina- 
tions. Business managers controlling large amounts of 
traffic at competitive points are well versed in the process 
of playing roads off against one another. It is even 
alleged that in some cases men have withdrawn their entire 
business from one road in order to convince its traffic agent 
that they were getting discriminating rates from another, 
and in this way persuade him to grant even lower rates, 
when, as a matter of fact, no discrimination had existed. 

The reports of the investigating committees and com- 
missions which have inquired into the practices of railroads 
in the United States are full of evidence as to the extent 
to which discriminations have been practised in the past. 
Some of the most flagrant cases have been brought to light 
in connection with investigations of the trusts. Thus, in 
one case the Standard Oil Company entered into a formal 
contract with a railroad, which was at the time operated by 
a receiver, under which the latter was to charge it ten cents 
a barrel for transporting its oil and other companies 
thirty-five cents for the same service, with the proviso 
that twenty-five cents of this excessive charge should be 
paid to the Standard Oil Company. That such an ar- 
rangement would be fatal to competitors who were com- 
pelled to ship over a railroad making such discrimination 
is obvious. There is abundant evidence that similar, if 



MONOPOLY PROFITS OF RAILROADS 383 

less favorable, traffic arrangements had much to do with 
the early success of the Standard Oil Company in crush- 
ing its competitors or compelling them to sell out to it 
on terms favorable to itself. In the judgment of the In- 
terstate Commerce Commission, expressed as recently as 
1898, " there is probably no one thing to-day which does 
so much to force out the small operator and to build up 
those monopolies against which law and public opinion 
alike beat in vain, as discrimination in freight rates." 

199. Monopoly Profits from the Railroad Business in 
the United States. — That the businesses classified as na- 
tional monopolies of organization have given rise and do 
give rise to very large monopoly profits is well understood, 
but reasons already explained make the exact measure- 
ment of these profits impossible. These businesses are 
peculiarly sensitive to public opinion and have been careful 
to so adjust their nominal capitalizations to their earning 
powers that the interest and dividends that they pay to 
investors seem, when the risks connected with such enter- 
prises are considered, scarcely a fair and certainly not an 
excessive return. Thus the aggregate capitalization of 
the railroads of the United States was returned to the 
Interstate Commerce Commission on June 30, 1906, at 
$14,570,000,000 divided about equally between bonds and 
stock. During the preceding year interest was paid on 
96 per cent of the bonds, but on only 67 per cent of the 
stock, and the average return on bonds and stock together 
was less than 3.7 per cent. On only 10 per cent of the 
stock were dividends in excess of 8 per cent paid, while 
on more than three-fourths of the outstanding bonds the 
rate of interest was under 6 per cent. Equally modest 
returns are shown for most of the telegraph, long-distance 
telephone and express businesses of the country. To get 
behind figures like the above to a knowledge of the relation 
which earnings bear to actual investment in these enter- 
prises is a task that has only been undertaken in a few 



384 THE RAILROAD PROBLEM 

instances. It is undoubtedly true that in many cases 
these monopolistic businesses have proved unprofitable. 
For them as for other monopolies, monopoly profit is a 
possibility rather than a necessity. No matter how com- 
plete the monopoly which a railroad may enjoy of the 
traffic of a given section, it cannot make this the source of 
monopoly profit if the section happens to be a desert and 
its traffic only sufficient to employ one train a week. It 
is equally incontestable that many of these enterprises 
have proved enormously profitable. The railroads in the 
older and more prosperous portions of the United States 
have earned immense fortunes for hundreds of different 
investors and speculators and promise to earn equally 
large fortunes for as many more before the rates are 
adequately controlled in the public interest. The enor- 
mous earnings which the railroads alone are capable of 
making are illustrated by comparing the figures for recent 
years. The year ending June 30, 1906, was considered 
a year of great prosperity in the railroad world, and yet 
the net earnings of the railroads of the country increased 
in the following year, according to the Statistician of the 
Interstate Commerce Commission, over $50,000,000 and the 
dividends paid nearly $30,000,000. And these additional 
earnings were realized for the most part, not by roads 
which were not paying a fair return on capital invested 
in 1906, but by those which even in that year were mak- 
ing large monopoly profits. If to the monopoly profits 
of the railroads we add those of the other national monop- 
olies referred to, we may assert without exaggeration that 
the aggregate return from these sources adds its hundreds 
of millions of dollars to the annual income in the United 
States that is properly characterized as monopoly profit. 
200. The Interstate Commerce Act. — Efforts on the 
part of the State legislatures to regulate railroads in the 
United States have encountered an insurmountable ob- 
stacle in the clause of the Federal Constitution assigning 



THE INTERSTATE COMMERCE ACT 385 

control over interstate commerce to Congress. Their 
power to regulate is limited to the affairs of State roads, 
and these now play a very minor part in the railroad busi- 
ness of the country. 

Congress did not bestir itself with a view to regulating 
railroads engaged in interstate commerce until 1885. In 
that year the Senate appointed a special committee to in- 
quire into the evils of railroad management. Its report, 
submitted the following year, furnished the basis for the 
Interstate Commerce Act of 1887. The principal pro- 
visions of this important measure were the following: (1) 
discriminations among persons, places and commodities 
were prohibited, and railroad officials granting discrimi- 
nating rates were made liable to fine and imprisonment ; 
(2) railway rates for interstate traffic were required to 
be just and reasonable, and any rate not just and rea- 
sonable was declared to be unlawful, and valid ground 
for a suit for damages by the injured party; (3) rail- 
roads were required to publish their rates and to change 
them only on public notice; (4) they were prohibited from 
charging a higher rate for a short haul than for a long 
haul over the same line and under similar circumstances, 
unless authorized to do so by the Interstate Commerce 
Commission; (5) pooling contracts among railroads were 
prohibited. The Act also created the Interstate Com- 
merce Commission and made this commission responsible 
for its enforcement. The powers of the Commission were 
extended by an amending Act passed in February, 1891. 
It may now subpoena witnesses and require testimony, 
even though such testimony is incriminating to the witness 
giving it, and call upon assistant attorneys general to 
bring suit in the name of the United States against of- 
fending railroads and their officials. 

Notwithstanding its large powers the Interstate Com- 
merce Commission failed during the first nineteen years 
of its existence to enforce some of the essential provisions 



386 THE RAILROAD PROBLEM 

of the Interstate Commerce Act. This was due chiefly to 
defects in the Act itself of which the most serious was the 
attempt to prohibit, at one and the same time, discrim- 
inations and pooling. Experience has shown conclusively 
that competition among railroads tends strongly to take 
the form of discrimination. Competition in the railroad 
business means in practice making special rates to attract 
special traffic. But experience has shown with equal con- 
clusiveness that agreements among railroads designed to 
put an end to competition can only be maintained when 
supplemented by pooling contracts. So long as the pro- 
portion of freight which each road is to secure depends 
upon its activity, the self-interest of railroad managers, 
or their credulity acted upon by the misrepresentations 
of unscrupulous shippers, make discrimination in rates 
almost inevitable. The law undertakes to enforce two lines 
of policy which can only be combined with the greatest 
difficulty so long as different railroads act as carriers for 
the same territory. 

Had the Commission enjoyed from the first the enlarged 
powers conferred upon it in 1906 its success would un- 
doubtedly have been greater, but the interpretation put 
upon the original Act by the Supreme Court made it 
almost helpless. That tribunal decided that a railroad 
may properly charge less for transporting imported com- 
modities from a port of entry to their destination within 
the country than is charged for domestic products of the 
same kind, over the same route. This decision deprived 
the Commission of much of the influence it might have had 
in adjusting freight rates on imported goods to those on 
domestic products. The Court further held that while the 
Commission might declare any given rate unlawful because 
neither just nor reasonable, it might not prescribe a sub- 
stitute rate which is just and reasonable and therefore 
lawful. Under this ruling the Commission's power was 
limited to condemning prevailing rates. While in prac- 



AMENDMENTS TO ACT 387 

tice this sometimes enabled it by repeated rulings to estab- 
lish the rate it considered fair, it caused needless friction 
and delay. Even more serious were the repeated failures 
of the Supreme Court to sustain the Commission in its de- 
cisions in reference to rates. This was due in part to the 
policy of attorneys representing the railroads of with- 
holding important evidence until appeal was taken to the 
United States courts, for the deliberate purpose of under- 
mining the authority of the Commission. 

201. Amendments to the Interstate Commerce Act. — 
The continuance of many of the abuses which the Inter- 
state Commerce Act was designed to correct, frankly 
acknowledged by the Interstate Commerce Commission in 
its successive reports and ascribed by it to the inadequacy 
of its own powers, gave rise to an irresistible public de- 
mand for such modifications in the law as would put an 
end to discriminations and secure truly just and reasonable 
railroad rates. This demand, partially appeased by the 
passage of the so-called Elkins Act in February, 1903, 
was completely satisfied — at least for the time being — by 
the passage of the so-called Hepburn law in June, 1906. 
Together these amending acts confer on the Interstate 
Commerce Commission for the first time the power and 
dignity indispensable to the accomplishment of the impor- 
tant task entrusted to it. The principal changes in the 
law resulting from the new legislation are the following: 
(1) The number of commissioners is increased from five 
to seven and their salaries from $7,500 to $10,000. (2) 
The Commission is given complete control over the methods 
of keeping railroad accounts. (3) The penalties for 
granting discriminatory rates through any possible device 
or combination of devices are made to include imprisonment 
as well as fine and apply not only to the carriers and their 
responsible agents, but also to the favored shippers for 
whose benefit discriminations are made. (4) The Com- 
mission is authorized to secure injunctions restraining 



388 THE RAILROAD PROBLEM 

railroads believed to be violating the law from contin- 
uing such violations. (5) Railroads are required not only 
to post in all their stations rate sheets giving full infor- 
mation in regard to all charges asked, but they are pro- 
hibited from changing rates except on thirty days' notice 
unless expressly authorized to do so by the Commission. 
(6) Finally, the Commission is given the coveted right to 
prescribe what rate will be just and reasonable for the 
future when it has decided that an existing rate is unjust 
and unreasonable, and on terms that greatly lessen the 
probability that its decisions will be set aside on appeal to 
the courts. 

Although the last and most important of these amend- 
ing acts has been in force but two years, there is already 
convincing evidence that it has put a stop to the worst of 
the abuses complained of, discrimination in rates. It has 
done this, in part by increasing the severity of the penal- 
ties for this offense, but much more by making the lia- 
bility of detection so great, that neither carriers nor ship- 
pers desire to incur the risk which commission of the 
offense involves. Only as regards one important type of 
discrimination does exception need to be made to this state- 
ment. Should the Supreme Court of the United States 
follow the circuit court in holding unconstitutional the so- 
called " commodity clause " of the Hepburn Act — a clause 
prohibiting railroads from owning the commodities, other 
than lumber and articles intended for their own use, which 
they transport — it will still be possible for railroads like 
the anthracite coal owning roads to discriminate in their 
own favor (cf. Section 188). Although serious in itself, 
this abuse is after all but a small part of the discrimina- 
tion evil. That it has been eradicated at all other points 
is a great triumph for the new law. Whether it will be 
equally successful in securing just and reasonable rates is 
still open to question. On this topic we shall have some- 
thing to add in the concluding section (Section 204). 



ARGUMENTS FOR NATIONAL OPERATION 389 

202. Arguments for and against National Operation 
of Express, Telegraph and Long Distance Telephone 
Businesses. — Many thoughtful persons, despairing of a 
satisfactory solution of the problem presented by national 
monopolies along the line of Federal regulation, advocate 
national ownership and operation of these businesses with 
the same confidence that they advocate municipal owner- 
ship and operation as a remedy for municipal monopolies. 
The extension of the postal business of the United States 
to include the express business is so widely advocated that 
it may be said to be a living issue. Hardly a session of 
Congress passes that bills are not introduced having this 
extension in view and such a step has been advocated with 
great regularity by recent Postmasters General of the 
United States. If the experience of other countries may 
be relied upon, this demand that the postal service be ex- 
tended to include a parcels post, or express, service will 
become more and more insistent until it finally gains its 
point. The enlargement of the powers of the Interstate 
Commerce Commission to embrace express companies along 
with railroads, which was one of the minor features of the 
Hepburn Act, may for a time quiet this demand, but, by 
making the public more familiar with the facts of this 
business, it will probably serve in the long run to hasten 
the day when the experiment of government operation will 
be entered upon. 

Arguments for government ownership and operation, 
similar to those already reviewed, are advanced also with 
reference to the telegraph and the long distance telephone 
businesses. On the other side, the most convincing argu- 
ment in favor of a continuance of private enterprise in 
these fields is the technical unripeness of these pecu- 
liarly modern services. With the possibilities of wire- 
less telegraphy still undetermined and with important 
inventions affecting the telephone following one another 
at frequent intervals, government ownership and oper- 



890 THE RAILROAD PROBLEM 

ation of these businesses would seem to be, to say the least, 
premature. 

203. Arguments for National Ownership and Opera- 
tion of Railroads. — The national ownership and oper- 
ation of the railroads of the United States are an even 
more ambitious project. In addition to the vastly larger 
initial outlay that such a policy would entail and the 
immense increase of public officials that would result from 
it,* there are complexities in the railway business itself 
that make the success of government operation at least 
problematical. The principal arguments on which de- 
fenders of the government ownership program rely may be 
summarized as follows: (1) Discriminations would cease 
and in their place general tariffs, published in advance 
and applying to all shippers alike, would prevail. (2) 
Rates might be lower, as the roads would have to earn 
only the two per cent or so on the bonds which the Gov- 
ernment might issue in exchange for them at the time of 
purchase, in place of the higher interest and dividends 
now demanded by stockholders. (3) In the determination 
of rates broader principles would be considered than those 
on which railway managers base their decisions. The 
railroads would become a great engine for the promotion 
of industrial and social progress. (4) The corrupting 
influence of private railway corporations would be re- 
moved from political life. (5) Such an enlargement of 
the field of government service would alter the feeling 
which the average American entertains for holders of pub- 
lic office. A new type would be drawn into the public 
service and the whole plane of official life would be raised 
until the preference would be for it, as has long been the 
case in Germany^ instead of for private activity. 

To these optimistic anticipations defenders of private 

* On June 30, 1907, as many as 1,672,074 persons were on the pay 
rolls of the railroads of the United States. During the preceding 
year the railroads expended $1,072,386,427 in wages and salaries. 



NATIONAL OPERATION OF RAILROADS 391 

enterprise in the field of railway transportation oppose the 
following counter-arguments: (1) Rates would become 
rigid and instead of adapting themselves readily to chang- 
ing business conditions, as at present, would force business 
to adapt itself to them, with industrial lethargy and stag- 
nation as a result. (2) Loss of efficiency in organization 
and the methods of operation would prevent any lowering 
of rates under government management, at the same time 
that it would be likely to cause deterioration as regards 
quickness and convenience of service. (3) Substituting 
for present business principles vague rules in regard to 
social expediency, as guides in the determination of rates, 
would cause confusion without really promoting the ends 
sought. The question as to what constitutes just rates 
would become the favorite theme of demagogues, and even 
if not allowed to influence the rates actually charged, the 
latter would stir up public opinion against the Govern- 
ment in a way that must be detrimental to the public 
service. (4) The decision of rate questions as they affect 
different sections and of questions connected with railroad 
extensions would inevitably get into politics, and injus- 
tices even more intolerable than those now committed by 
the privately owned railroads would be practised for the 
sake of party advantage. (5) Far from raising the 
plane of public service, adding so enormously to the spoils 
of each national election would confirm the dominance of 
the corrupt party machine and party boss. 

In addition to these partly theoretical and hypothetical 
objections, the opponents of national ownership emphasize 
practical difficulties. European experience is discredited 
on the ground that no European country requires more 
than a fraction of the railway mileage needed by the 
United States. The enormous cost of acquiring the pres- 
ent lines and the difficulty of deciding where new lines ought 
to be built are urged. Finally the whole proposal is char- 
acterized as a leap in the dark, when only the first steps 



392 THE RAILROAD PROBLEM 

have as yet been taken towards trying to regulate the rail- 
way business through public commissions. The last con- 
sideration seems to merit most attention and is likely to 
postpone any experiments along the line of national own- 
ership until the Interstate Commerce Commission has had 
full opportunity to test its ability to regulate the railroads 
in the public interest with the enlarged powers so recently 
conferred upon it. 

204. The Future of Railroad Regulation in the United 
States. — Important as is the abolition of discrimination 
in rates, it cannot be accepted as a complete solution of 
the railroad problem. According to our analysis rail- 
roads are in a high degree monopolistic. As the country 
becomes more densely populated and the volume of traffic 
grows, the earnings of old, established railroads should 
show a marked tendency upward. Unless their charges 
are regulated by administrative decree, they are likely to 
become increasingly unjust and unreasonable and to afford 
larger and larger monopoly profits. But if the Interstate 
Commerce Commission is to accomplish its task of seeing 
to it that railroad rates are just and reasonable, not 
merely among themselves, or relatively, but absolutely, it 
must have at its command all the data necessary for dis- 
tinguishing the reasonable from the unreasonable. The 
meaning usually attached to the phrase, " just and rea- 
sonable," in connection with charges is that they shall 
afford a just and reasonable return on the investment. It 
would be impossible at this late date to determine what 
the original investment in railroad property in the United 
States actually was. The most that can be expected is 
that the Commission shall be enabled to make a fair esti- 
mate of the present value of the investment on which 
holders of railroad securities are entitled to a return and 
that it shall have some measure of control over the rela- 
tion between investment and capitalization in the future. 
The first step that is currently advocated as a means to 



THE FUTURE OF RAILROAD REGULATION 393 

insuring just and reasonable railroad rates is the valua- 
tion of the physical property of the railroads of the coun- 
try. Although this proposal is bitterly opposed by rail- 
road managers, it can hardly be denied that it follows 
logically from the policy of rate regulation by Commis- 
sion to which the Federal Government is now fully com- 
mitted. Nor is there any good ground for believing that 
the carrying out of such a proposal would be disadvan- 
tageous to investors in railroad securities. Most of the 
great railroad systems of the country are now conserva- 
tively capitalized since the correspondence between tangible 
assets and capital liabilities, which was so often conspicu- 
ously absent at the outset, has since been brought about 
either by failure and reorganization, or by an appreciation 
in the value of certain assets, particularly real estate. In 
addition to directing the Interstate Commerce Commission 
to make an inventory of the property of the railroads, Con- 
gress must also empower that body to control future issues 
of capital stock and thus to determine in the future the 
capital invested on which a return may be justly and 
reasonably claimed by investors. Without such power, 
the Commission clearly cannot carry out the task which 
the law has all along imposed upon it, that is, to see to 
it that only just and reasonable rates are charged. 

At the same time that regulation of the railroad indus- 
try is advanced this further step, a concession should be 
made to railroad managers which they would greatly ap- 
preciate. In its amended form the Interstate Commerce 
Act leaves no doubt that Congress recognizes the failure 
of competition to regulate railroad rates in the public 
interest and proposes to secure such regulation through 
the Interstate Commerce Commission. Under these cir- 
cumstances there is no longer any justification for the 
sweeping prohibition in the present law of agreements 
as to rates, pooling arrangements, etc. Not only the 
logic but the practical exigencies of the situation demand 



394 THE RAILROAD PROBLEM 

that the Commission be empowered to authorize such 
agreements among the railroads as are not opposed to the 
public interest and that agreements so authorized have the 
force of legally binding contracts. Such a change would 
facilitate a more economical and stable organization of 
the railway business and also lessen the temptation to dis- 
crimination. In the opinion of the writer these two impor- 
tant extensions of the regulative policy should be made as 
promptly as possible, for only in this way can this method 
of solving the railroad problem be given a fair trial. 
Then, to repeat the words of Judge Knapp, Chairman of 
the Interstate Commerce Commission, " if regulation fails, 
public ownership will be the next and early resort." 



REFERENCES FOR COLLATERAL READING 

* Reports of the Interstate Commerce Commission ; Report of the 
United States Industrial Commission, Vols. IV., IX. and *XIX.; 
* Johnson, American Railway Transportation ; * Ripley, Railway 
Problems ; * Hadley, Railroad Transportation ; Stickney, The Railway 
Problem; Lewis, National Consolidation of the Railways of the 
United States; Dixon, State Railroad Control; Meyer, B. H. t Rail- 
way Legislation in the United States. 



CHAPTER XXII 

THE TRUST PROBLEM IN THE UNITED 
STATES 

205. Capitalistic Monopolies, or Trusts, in the United 
States. — The last species of monopoly calling for special 
consideration is that represented by the industrial com- 
binations, or trusts, which we have characterized as " cap- 
italistic monopolies." As now used in the United States 
the term " trust " applies to any industrial combination 
which is so large as to be the dominant factor in the branch 
of production with which it is concerned. Many such 
combinations are not, of course, monopolies. Inasmuch, 
however, as their main purpose according to the unanimous 
testimony of their promoters is to suppress competition, 
monopoly may be said to be the goal at which they are 
aiming. We may define a trust, therefore, as an industrial 
combination, not a legal nor natural monopoly, which seeks 
to throw off the restraints and avoid the wastes of com- 
petition by absorbing, controlling or crushing its would-be 
competitors. 

The psychology of the combination movement is easy 
to understand. From the point of view of the competitors 
in any line of business, competition is an evil rather than a 
blessing. It tends to lower prices when the interest of each 
individual competitor demands that they be maintained. 
It has been too customary in economics to argue as though 
the only motive of the entrepreneur were to enlarge the 
volume of his business. Quite as strong is his desire to 
receive high prices for his products. When producers are 
numerous and widely scattered and competition among 

395 



396 THE TRUST PROBLEM 

them is active, the individual entrepreneur must perforce 
content himself with such price as the market affords, and 
give most of his thought and attention to keeping down 
his expenses of production by developing his business to the 
size most conducive to efficiency. The latter aim often 
leads him to cut prices in the hope of enlarging his sales, 
and is the force on which economists rely when they assert 
that competition tends to keep prices down to the expenses 
of production of representative firms. This is the situa- 
tion in all branches of business in which small-scale pro- 
duction is the rule. Another situation is that in which a 
business is already concentrated into a few highly organ- 
ized and shrewdly directed plants and in which the nature 
of the product, a protective tariff or some other barrier, 
excludes foreign competition. Competition among such 
great industrial plants may persist, and each entrepreneur 
may continue to seek to derive his profit by producing more 
cheaply and underselling his competitors. But competi- 
tion is a wearing process. It is quite as likely that the 
competitors may agree to combine their plants and seek 
for profit, not through underselling one another, but 
through maintaining a remunerative price for the common 
benefit. If to this immediate advantage of combination 
be added the prospect that through it the expenses of pro- 
duction may be lowered and the competition of firms not in 
the combination suppressed, its attractions so far exceed 
those of continued independence that a trust is almost cer- 
tain to be formed. As a well-known trust organizer ex- 
pressed it, in words originally applied to the railroad busi- 
ness : " Where combination is possible competition becomes 
impossible." 

The first industrial combination in the United States 
was the Standard Oil Trust, formed in 1882. This was a 
union of oil refineries in Ohio and Pennsylvania, brought 
about by the assignment of the stock of these companies to 
a board of nine trustees who in this way secured complete 



PROGRESS OF THE TRUST MOVEMENT S97 

control of the business. These trustees issued trust certifi- 
cates in exchange for the shares of stock assigned to them 
and agreed to pay all dividends declared on such stock 
pro rata to the holders of these certificates. This was, in 
a literal sense, a " trust," and from it all later combina- 
tions have derived their rather misleading name. Similar 
trusts were organized by leading sugar refiners and whisky 
distillers in 1887. In 1890 and 1892, in suits involving the 
Sugar and Standard Oil Trusts, respectively, the courts 
of New York and Ohio declared this form of organization 
illegal. The organizers of the Sugar Trust lost no time 
in securing a charter from the State of New Jersey for a 
single corporation, the American Sugar Refining Com- 
pany, which should absorb the plants which had formed the 
Trust. The certificate-holders of the Standard Oil Trust 
followed a different plan. Instead of creating one corpo- 
ration, the trustees, who happened to be the owners, in- 
dividually, of a majority of the stocks of the companies 
forming the Trust, divided up the shares of these com- 
panies among themselves in such a way that they continued 
to control them as completely as they had under the trust 
agreement. This arrangement was continued until 1899, 
when the capital stock of the Standard Oil Company of 
New Jersey was increased sufficiently to permit an ex- 
change of its shares for shares in the other Standard Oil 
companies. In consequence the Oil Trust has since ex- 
isted as a great holding company. The usual forms of 
trust organization have thus come to be the single corpo- 
ration, owning outright the properties controlled, and the 
holding company. 

206. Progress of the Trust Movement. — From the time 
of the organization of the Standard Oil Trust until Janu- 
ary 1, 1898, the progress of the trust movement was slow. 
But during the next three years there was a veritable stam- 
pede among the managers of businesses of all kinds to enter 
into combinations. According to a reliable estimate 149 



398 THE TRUST PROBLEM 

large combinations, with a capitalization of over $3,000,- 
000,000, were formed during this period. The United 
States Census Bureau made an investigation of the indus- 
trial combinations carrying on business in the United 
States on May 31, 1900. According to its report, there 
were in the United States, on that date, 183 industrial com- 
binations controlling 2029 plants. The capitalization of 
these corporations was a little over $3,000,000,000, of 
which about $1,800,000,000 was represented by common 
stock, $1,000,000,000 by preferred stock and $216,000,- 
000 by bonds. These figures are more conservative than 
those given by financial papers for the same period, and are 
certainly not exaggerated. Since the Census inquiry was 
made, several new combinations, including the giant United 
States Steel Corporation, have been effected. The capital 
of the latter company alone was $1,400,000,000, of which 
$304,000,000 was represented by bonds and the remainder 
was divided equally between common and preferred stock. 
It would be inaccurate to add the capitalization of this new 
corporation to the figures given in the Census Report, as 
much of its stock represents the stock of constituent com- 
panies which figured in that investigation. At the same 
time more than $500,000,000 ought to be added on its 
account, as its capitalization was generously watered. 
Taking this and later combinations into account, $6,000,- 
000,000 is believed to be a conservative estimate of the ag- 
gregate capitalization of the industrial combinations doing 
business in the United States on November 1, 1908. 

207. Reasons for the Trust Movement. — The remark- 
able progress of the trust movement after January 1, 
1898, suggests a connection between it and the contempo- 
raneous revival of business prosperity. What that con- 
nection was is easily explained. The motives which led 
manufacturers to enter the trusts were the desire to sup- 
press competition and to realize the economies of combina- 
tion. By themselves these motives lost rather than gained 



REASONS FOR THE TRUST MOVEMENT 399 

in strength with the revival of prosperity. Working with 
them, however, was the motive of the stock operator. Pro- 
moters, underwriters and " insiders " generally, wished to 
realize profits from the sale of new securities on a buoyant 
stock market, and these were the men who were most active 
in bringing about the combinations. The country had 
just passed through four years of serious business depres- 
sion. Failures had been common, and even firms which had 
succeeded in avoiding bankruptcy had felt to the full the 
pressure of a relentless competition. It was in this period 
that the phrase " competition is the death of trade " be- 
came current and that the benefits of combination as 
exemplified in the successful trusts, the Standard Oil 
Company, the American Sugar Refining Company and 
the American Tobacco Company, were extolled. There 
seemed no reason why similar combinations might not be 
effected with equal success in other branches of business. 
The favorable mental attitude of business managers was 
paralleled by a very hopeful feeling on the part of the 
investing public. After the long years of depression, the 
rich returns to agriculture and other branches of industry 
enjoyed in 1897 set free a large surplus for investment. 
There was thus a ready welcome for the new securities of 
the industrial combinations. 

Several of the combinations organized in 1898 resulted 
from the activity of energetic manufacturers in whom their 
associates and former competitors had confidence. They 
were literally " combinations " of former competitors, 
spontaneously entered into for mutual advantage. As 
time went on, however, it became more and more the rule 
for combinations to be effected by professional promoters, 
who made up for their ignorance of the practical details of 
the businesses that they proposed to unite by their knowl- 
edge of finance and their skill in persuading others of the 
merits of their plans. The method usually pursued by 
the professional promoter was as follows: The leading 



400 THE TRUST PROBLEM 

competitors in the selected branch of industry were first 
persuaded that combination would be a good thing for the 
trade as a whole and induced to give their assent to the 
general plan of organization. This task was usually 
easy. Expert appraisers were then set to work to deter- 
mine the cash value of the plants to be combined. Armed 
with information so obtained, the promoter had next to 
bargain with the owners of the different plants to deter- 
mine the terms upon which they should enter the combina- 
tion. Meantime, a charter was secured, usually from the 
State of New Jersey, authorizing a certain aggregate 
issue of common and preferred stock, and arrangements 
were made with some private banking or trust company to 
finance the undertaking. The arrangement between pro- 
moter and underwriter was usually that preferred stock to 
a certain aggregate amount should be taken at a certain 
price and paid for in cash, as the latter might be required. 
To this preferred stock might be added, as a bonus, an 
equal or even a larger amount of common stock. Besides 
the cash needed to purchase the plants of reluctant own- 
ers, the promoter usually required money in the treasury 
to insure the initial success of the combination. This also 
was secured from the underwriter. The promoter's own 
profit might come in the form of cash received from the 
underwriting syndicate, or in the form of stock in the new 
enterprise, to be held or sold as his judgment might deter- 
mine. How largely it was sometimes necessary to over- 
capitalize a combination, in order to satisfy the demands 
of all those connected with it, is illustrated by the case 
of the Whisky Trust. According to testimony presented 
before the Industrial Commission, for each $100,000 cash 
value of the plants taken into the combination $100,000 
preferred stock and $100,000 common stock went to the 
owner, $150,000 common stock went to the promoter, and 
$100,000 preferred and $150,000 common went to the 
underwriter, the latter being required to furnish a certain 



FINANCIAL SUCCESS OF THE TRUSTS 401 

amount of cash to serve as the working capital of the 
enterprise. Professor Jenks calculates that the promoters 
and underwriters of the trust received $10,700,000 in 
preferred and $13,360,000 in common stock, in exchange 
for $3,500,000 in cash. What their profits were it is im- 
possible to say, but judging from the quotations for the 
stock immediately after the combination was launched, 
they probably amounted to several million dollars. In an- 
other case, that of the Tin Plate Trust, evidence was pre- 
sented before the Industrial Commission showing that the 
promoter received $10,000,000 in common stock for his 
services, and that he probably realized $2,000,000 to 
$3,000,000 profit from the undertaking. These facts in- 
dicate the motives of promoters and underwriters and 
account for their activity in bringing the trusts into being. 

208. Financial Success of the Trusts. — That the or- 
ganization of many of the trusts was not in response to 
any legitimate business need has been shown by their fi- 
nancial results. Of the 183 industrial combinations in- 
vestigated by the Census Bureau in 1900, but 121 had paid 
dividends. Moreover, of the ninety-two paying dividends 
on their preferred stock, only thirty had paid also on their 
common stock. Thus one-third of the total number paid no 
dividends at all and another one-third paid no dividends to 
common-stock holders. Since that year fully a score of 
trusts have either failed outright or been forced to reor- 
ganize in consequence of the gross discrepancies between 
their earnings and their capitalizations. A much larger 
number are still in a position which makes confident asser- 
tion about their success or failure as business enterprises 
hazardous. 

Catastrophic as has been the failure of some of the re- 
cent combinations, it is not to be denied that the success 
of others has been equally striking. Thus the Standard 
Oil Company of New Jersey since it was enlarged into the 
present giant holding company has paid the following 



402 THE TRUST PROBLEM 

dividends on its capital of $100,000,000: 1900 and 1901, 
48 per cent each year; 1902, 45 per cent; 1903, 44 per 
cent; 1904, 36 per cent; from 1905 to 1908, 40 per cent 
annually. The American Tobacco Company has been al- 
most equally successful, but frequent changes in its capi- 
talization make the history of its dividend payments too 
complicated a story to be told here. The American Sugar 
Refining Company paid 4 per cent on its common stock in 
the year of its organization. The following year, 1892, 
it paid 10 1-2 per cent; in 1893, 21 1-2 per cent; from 
1894 to 1899, 12 per cent annually; in 1900, 7 3-4 per 
cent; from 1901 to 1908, 7 per cent annually. This com- 
pany has also paid regularly 7 per cent on its preferred 
stock. Comment on the above showing is hardly necessary. 
Even on the assumption that all three of these enterprises 
were conservatively capitalized at the outset — and this is 
true of only one of them — 'their success far exceeds 
anything to be met with in the annals of competitive 
business. 

209. Economies Effected through the Trust Form of 
Organization. — Some light is thrown on the reasons 
for the remarkable success of some of the trusts, in 
face of the complete failure of others, by a study 
of the economies with which they are credited. In addi- 
tion to the general economies already discussed (Section 
56) resulting from large-scale production there are special 
advantages which pertain to combinations. One considera- 
tion favorable to the trusts is that after the first step 
separating the individual firm from the corporation with a 
salaried president or manager has been taken, there need 
be no increased loss of efficiency as the business grows. 
Since reliance for the direction of the enterprise must be 
put in any case in salaried employees, it makes little differ- 
ence whether these employees are few or many. An able 
president may hold the managers of the individual plants 
over which he has general supervision to as strict account 



ECONOMIES EFFECTED BY THE TRUSTS 403 

for the efficient performance of their duties as that to 
which the directors hold him himself. The larger the en- 
terprise the larger is the salary which it can afford to 
pay to its responsible manager and the abler the manager 
whose services it can command. It follows, it is claimed, 
that instead of losing in efficiency on account of its size, 
a trust gains in efficiency. The truth of this contention 
depends obviously upon whether the higher salary paid by 
a trust to its chief executive really secures a higher 
grade of ability. The three combinations which have suc- 
ceeded most brilliantly have, undoubtedly, been directed 
with remarkable skill and foresight. They have devised 
plans for securing the loyal co-operation of their thou- 
sands of employees, and have selected for important posi- 
tions the best men to be had for the tasks assigned them. 
The phenomenal success of the Carnegie Steel Company 
before it was merged into the Steel Trust furnishes an 
example of what may be achieved through organization. 
As the result of thought and experiment, Mr. Carnegie 
and his associates devised methods by which every employee 
in every department of the business, from highest to low- 
est, was made to feel as keen an interest in the result of 
his day's work as though he were to be the sole beneficiary 
from it. High wages and salaries were paid, and the 
prospect of still higher remuneration was held out to all 
who could increase their productiveness. The result was 
a business which, in spite of its huge proportions — its 
earnings were $70,000,000 in a single year — compared 
in efficiency in every department with any other enterprise, 
large or small, to be found in that branch of industry. 
But the same circumstances that enable efficient chief ex- 
ecutives to contribute so largely to the success of trusts 
increase the power for injury of inefficient managers. 
The presidents of the highly successful trusts have been 
willing to devote their unusual abilities to the great enter- 
prises with which their names are identified because these 



404 THE TRUST PROBLEM 

were, in a real sense, their enterprises. The services of 
such men cannot be secured by the mere payment of high 
salaries. It is here that a serious obstacle to the perma- 
nent success of great industrial combinations is encoun- 
tered. The few men who have the ability to direct such 
vast enterprises are increasingly in demand, and the 
chance that a board of directors which has chosen a presi- 
dent wisely once will do so every time the office has to be 
filled, is small. 

A more constant advantage of trust organization is 
economy in connection with the sale of products. A large 
part of the expenditure for advertising, traveling sales- 
men, etc., necessary to success in competitive businesses, is 
necessary simply because of the competition. The sale of 
whisky and tobacco, for instance, is probably not increased 
materially by the hundreds of thousands of dollars ex- 
pended annually on advertising. The sale of particular 
brands, however, is increased. A combination which unites 
all of the plants producing different brands under one 
management dispenses with the need for competitive ad- 
vertising. The more complete the monopoly of the com- 
bination the more fully, obviously, it may economize in this 
department of its business. The testimony in regard to 
the trusts obtained by the Industrial Commission of 1902 
teems with illustrations of this species of economy. Other 
ways in which combination lessens expenses in selling goods 
were also brought out by different witnesses. Thus, the 
practice of giving premiums may be discontinued, as also 
that of granting credit to customers whose business stand- 
ing is doubtful in order to retain their trade. 

A third advantage, especially in connection with trusts 
producing bulky articles, is a saving in cross-freights. An 
officer of the American Steel and Wire Company told the 
Industrial Commission that his company saved, by having 
plants at different points, at least $500,000 a year on its 
freight bill. This advantage does not apply, of course, 



ECONOMIES EFFECTED BY THE TRUSTS 405 

as against local competitors who aim to secure merely the 
local market. 

A fourth advantage is that trusts can adjust the output 
of their plants to the irregularities of the market better than 
smaller producers. Not only are they in a position to get 
a broader view of market conditions, but they may organ- 
ize their different plants so that those in the smaller places, 
where the labor supply is less steady and reliable, may be 
run continuously, while those in large cities may be run 
or shut down as the conditions of the market demand. 
Thus, the American Sugar Refining Company is said 
to use its Brooklyn refinery as a sort of safety valve to 
its business. When the demand for sugar is active and 
the trust is understocked, its rate of production can be 
largely increased at very short notice by running this re- 
finery at top speed. In the face of adverse conditions a 
curtailment of production is equally easy. 

Among minor advantages claimed for the trusts is 
the ability to satisfy the different tastes of consumers by 
offering a varied stock of goods. This is believed to have 
been an important circumstance in connection with the 
success of the American Tobacco Company. A similar 
advantage is ability to supply on demand a practically un- 
limited quantity of any good. It is stated that the Ameri- 
can Sugar Refining Company is able at times to get one- 
eight of a cent a pound more for its sugar than its 
competitors because jobbers prefer to order where they 
can be sure of securing at once all that they require. 
These various advantages which contribute in greater or 
less degree to the success of the trusts may be called 
legitimate, because they enable the trusts to perform the 
same services for the public more cheaply than could com- 
peting independent companies. 

210. Illegitimate Advantages of the Trusts. — Critics 
of the trusts charge them with three lines of policy that 
are squarely opposed to the general interest and therefore 



406 THE TRUST PROBLEM 

illegitimate. They are said to have obtained discriminat- 
ing rates from the railroads in defiance of the Interstate 
Commerce Act, to have taken advantage of their national 
position to cut prices at certain points in order to stifle 
competition while recouping themselves by maintaining 
prices at non-competitive points and finally to have made 
unfair contracts with jobbers and retailers under which 
the latter boycott the products of independent producers. 
The trust which has been most widely accused of secur- 
ing special favors from the railroads is the Standard Oil 
Company. That such favors were commonly enjoyed 
prior to the enactment of the Interstate Commerce Act is 
admitted even by officers of the Company. An exhaustive 
report on the Transportation of Petroleum, published in 
1906 by the Commissioner of Corporations, indicates that 
similar favors, disguised in various ways, continued to be 
extended by the railroads down to the very time that his 
investigation was made. In addition, the large scale of its 
operations gives the Standard Oil Company many special 
advantages over its competitors. In the first place it has 
secured control of most of the important pipe lines con- 
veying crude petroleum from the wells to the points where 
it is refined. In its management of these pipe lines it is 
now restrained by the law which requires common carriers 
to accord equal treatment to all shippers, but it is claimed 
that prior to 1906 when this change in the law was made, 
it persistently discriminated in its own favor. It is so much 
cheaper to pipe oil than to ship it by rail that control over 
the pipe lines has given it a marked advantage over its com- 
petitors in many of the most important markets of the 
country. Again, in consequence of the large scale of its 
operations the Standard Oil Company is able to maintain a 
full equipment of tank-cars, receiving tanks and tank 
wagons and it is alleged, although it cannot be said to have 
been proved, that the tank cars of the Company have some- 
times been underbilled so that the actual has been consider- 



ILLEGITIMATE ADVANTAGES OF TRUSTS 407 

ably below the nominal rate. Obtaining discriminatory 
freight rates has recently been proved against the Sugar 
Trust also. In fact enough evidence of discrimination in 
favor of the trusts has come to light to make it certain that 
this was one of the important factors in their success prior 
to 1906. Now that the new law has effectively put a stop 
to such discrimination competition between the trusts and 
their smaller rivals is for the first time on fair terms so 
far as railroad transportation expenses are concerned. 

Equally definite evidence is forthcoming in reference to 
the second charge, that is, that the trusts cut prices in 
local markets to kill competition, while they maintain or 
raise them in markets where there is no competition. The 
Industrial Commission made an exhaustive inquiry into 
the wholesale and retail prices paid in different towns in 
different parts of the United States for petroleum, sugar 
and baking powder. As a result of this inquiry it seems 
to be established beyond question that the Standard Oil 
Company charges different prices for the same product 
at different points, depending upon the intensity of com- 
petition. Inquiry in reference to the price-making prac- 
tices of the other trusts was less conclusive. Direct in- 
terrogation of some managers indicated, however, that the 
practice of making special prices to fit special localities 
was not only common, but that it was looked upon as en- 
tirely proper and defensible. Since it is certainly the 
policy best calculated to advance the business success of 
the trusts and since it has only recently been expressly con- 
demned in any jurisdiction, it would really be matter for 
surprise if the practice were not widespread. 

The third charge, that is, that some of the trusts con- 
strain jobbers and local dealers to boycott other products, 
cannot be said to be proved in any large number of cases. 
This is probably due, however, to the difficulty of getting 
the interested parties to testify, rather than to the infre- 
quency of such practices. Two cases were investigated at 



408 THE TRUST PROBLEM 

some length by the Industrial Commission. It was claimed, 
and admitted by an officer of the company, that the East- 
man Kodak Company, acting as agent for the General 
Aristo Company, sold the goods of the latter association 
at a 15 per cent trade discount and an additional discount 
of 12 per cent to dealers who handled only such goods. 
It was even admitted that the Eastman Company would 
probably not sell to dealers handling rival products. The 
other case was that of the Continental Tobacco Company, 
which was charged with forbidding retailers who handled 
its brands of tobacco from dealing in other brands. It 
may readily be seen how a company controlling a large 
number of the favorite brands of a commodity like tobacco 
might, by pursuing this policy, prevent the public from ac- 
quiring a taste for other brands. As regards commodities 
which are to a less extent matters of taste, limiting dealers 
to trust products might not be of any particular aid to a 
trust in preserving its monopoly. 

It needs no extended argument to prove that a trust 
resorting to the kinds of competition described above may 
make its position well-nigh impregnable, so long as its 
competitors are widely scattered over the country and 
prevented by distance and fear of complete extermination 
from uniting effectively to oppose the common enemy. 
Such practices are as demoralizing in their influence upon 
business and the standards of business morality as are dis- 
criminations on the part of the railroads of the country, 
and like the latter they should be prevented at whatever cost 
to the Government. 

2ii. The Tariff and the Trusts. — The view expressed 
in the late H. O. Havemeyer's striking phrase, " the pro- 
tective tariff is the mother of the trusts," suggests another 
possible advantage enjoyed by these combinations. His 
argument was that the higher duties charged on many 
products in the tariffs of 1883, 1890 and 1897 permitted 
a margin of profit to domestic producers which encouraged 



THE TARIFF AND THE TRUSTS 409 

a reckless duplication of plants and ruinous competition. 
To escape the latter, trusts were organized. If the tariff 
had not assured immunity from foreign competition, no 
one would have cared to embark his capital in them. Once 
established, as a result of the artificial conditions created 
by the tariff, the trusts enjoy advantages over their com- 
petitors whenever that tariff is changed, through their 
more intimate acquaintance with what is going on in 
Washington and larger capital with which to take ad- 
vantage of the changes that are foreseen. 

That some of the trusts in the United States have been 
encouraged and fostered by the protective tariff few will 
deny. It is even probable that some of them have grown 
up in industries which would not have flourished at all but 
for the tariff. Others, doubtless, would not have been es- 
tablished had not the tariff been high enough to protect 
them from foreign competition. At the same time it is 
equally certain that many of the trusts have been organ- 
ized in industries that are in no wise dependent upon the 
tariff. Some of the latter, notably the Standard Oil Com- 
pany, have enjoyed greater success for a longer period 
than any of the tariff -made trusts. If further proof of 
the independent origin of trusts is needed it may be found 
in free-trade England, where trusts are common although 
undoubtedly less numerous than in the United States. Mr. 
Havemeyer's dictum ought probably to be changed to the 
statement that " the tariff is the mother of some trusts." 
Wherever such maternity can be established a modification 
of the tariff may prove a sufficient means of control, but it 
is also true that some of the tariff-made trusts have out- 
grown their leading-strings and have now little to fear 
from foreign competition. 

212. Other Evils Charged Against the Trusts 

Among other evils charged against the trusts, three merit 
special attention: they are overcapitalized; they exert a 
corrupting influence on our political life, and they demand 



410 THE TRUST PROBLEM 

excessive prices for their products. Abundant evidence 
has already been given (Section 207) of the tendency to 
overcapitalization. Trust organizers themselves do not 
deny that the combinations are capitalized often for two or 
three times the value of the tangible property which goes 
into them, but they justify such overcapitalization on the 
ground that, in addition to this tangible property, there 
are patents, the good will of the business and the probable 
appreciation of certain kinds of property, such as mineral 
lands, to be considered. In their opinion the proper basis 
of capitalization is not tangible assets but earning power. 
Others go even further. Frankly admitting the over- 
capitalization complained of, they take their stand on the 
proposition that overcapitalization injures no one. They 
argue that it is indifferent whether the nominal capitaliza- 
tion of a business is $1,000,000 or $2,000,000. If in the 
former case its stock is quoted at par, in the latter case, 
they assume, it will be quoted at 50 per cent of par, and 
the only result will be that two shares are regarded as one 
share would have been, had the capitalization been more 
conservative. Such apologists for overcapitalization over- 
look important aspects of the question. While it is true 
that if all of the facts in the case were known to all of 
the parties interested, it would make little difference what 
the nominal capitalization might be, this is far from true 
when, as is usually the case with the trusts, knowledge of 
the essential facts is confined to a small group of directors. 
At least three evils may be traced to overcapitalization. 
It leads to the wholesale swindling of the investing and 
speculating public which still believes, in spite of many 
sad experiences, that the par value of stock bears some 
relation to its real value. It invites the deception of offi- 
cials charged with the enforcement of tax laws. When 
nominal capitalization throws no light on the value of 
corporate property for purposes of taxation, there is 
every opportunity for those interested to deceive assessors 



OTHER EVILS 411 

as to the real value that ought to be taxed. Finally, it 
encourages mismanagement on the part of the company 
itself. However much the stock of a company may be 
watered, it is but natural that its responsible officers should 
desire to pay dividends. In the effort to perform this often 
impossible task they are apt to adopt lines of policy of 
which they would not have thought had the business been 
conservatively capitalized and only reasonable earnings 
demanded of it. In the case of the trusts such mismanage- 
ment has injured the public as well as stock-holders in the 
enterprises affected. 

The second evil, that is a corrupting influence on 
political life, is by no means confined to the trusts, but 
with them it assumes special significance. Trust managers 
have been accused of influencing legislation through con- 
tributions to campaign funds, of securing the election or 
appointment of officials favorable to their interests, of 
bribing attorneys general to refrain from enforcing anti- 
trust acts and even of corrupting courts charged with the 
interpretation and enforcement of adverse laws. Proof 
of these accusations is rarely forthcoming, but this is be- 
lieved to be rather because those possessing such proof 
have every interest to withhold it than because the accusa- 
tions are altogether unfounded. As the control of the 
trusts and the railroads of the country comes to be con- 
centrated in fewer and fewer hands, their corrupt political 
influence is only too likely to increase unless vigorous steps 
are taken to curb it. 

The claim that the trusts charge excessive prices for 
their products is also difficult of direct proof. So many 
and such diverse influences affect the prices of commodities 
that it is almost impossible for those unfamiliar with every 
detail of the business concerned to judge whether a given 
price is or is not excessive. Notwithstanding these diffi- 
culties, an interesting investigation into the influence of 
the trusts on prices was made by Professor Jenks on behalf 



412 THE TRUST PROBLEM 

of the Industrial Commission. His conclusions were, on 
the whole, distinctly adverse to the contention of trust 
apologists that they reduce prices in consequence of the 
great economies they are able to realize. In the most 
notable instance of lowered prices under trust management, 
that of refined oil, it appeared that the reduction was less, 
on the whole, than the decline in the price of crude oil, and 
consequently that the margin retained by the trust to cover 
its expenses of production and profit was larger than it 
had been before the trust was organized. The dividends 
paid by the Standard Oil Company afford indirect sup- 
port to this conclusion. Another case carefully investi- 
gated was that of refined sugar. Here it appeared that 
the margin between the price of the raw and the refined 
product fluctuated, but that, on the whole, the margin was 
reduced only as competition on the part of independent 
refiners became severe, and that as soon as a new combina- 
tion was effected it was increased so as to afford larger 
profits to the Trust. Inconclusive though the above evi- 
dence is, its trend harmonizes with what was to be expected 
on general principles. The trusts are organized for profit. 
One of the advantages claimed for them by their promoters 
is control over prices. To the extent that they exercise 
monopoly powers, self-interest will lead them to obey the 
principles governing monopoly price. When economies in 
production do really result from their form of organiza- 
tion, they may find it advantageous not to raise prices, or 
even to lower them somewhat, in order to enlarge the 
volume of their sales, or to discourage competition. They 
will not, however, find it to their interest to lower prices to 
a point which deprives them entirely of monopoly profit, as 
competitive businesses are forced to do by the stress of 
competition. It may be concluded that the desire of the 
trusts is to maintain prices at a monopoly level, and that 
if they fail to do so it is because they have npt the monopoly 
powers claimed for them by their organizers, What the 



THE CONSTITUTIONAL OBSTACLE 413 

effect of trusts generally upon prices may be is thus bound 
up with the question as to whether the trusts generally 
succeed in actually controlling the branches of production 
in which they are organized, or whether they prove to be 
promoters' enterprises, which make little real difference 
in the competitive situation. It is quite clear from the 
earnings of some of the trusts that they have maintained 
prices comfortably above their expenses of production. 
The small earnings of others are equally eloquent proof of 
their failure to control the prices on which their success 
depends. 

213. The Constitutional Obstacle to Legal Regulation 
of the Trusts. — Attempts to correct by means of legislation 
abuses charged against the trusts have encountered a fa- 
miliar obstacle in the United States — constitutional limita- 
tions on the legislative power. Under the American form 
of government control over industrial enterprises is shared 
between the Federal and the State governments. The 
Constitution of the United States provides that Congress 
shall have control over commerce among the States. In in- 
terpreting this clause, the Supreme Court has defined 
interstate commerce as " intercourse and traffic between 
the citizens or inhabitants of different States," including 
" not only the transportation of persons and property and 
the navigation of public waters for that purpose, but also 
the purchase, sale and exchange of commodities." It has 
further held that a failure on the part of Congress to 
regulate such intercourse and traffic in a particular way 
is to be taken as a declaration that such regulation is 
deemed inexpedient, and that the States are therefore de- 
barred from interference. With equal definiteness the 
court has indicated what is not included in interstate com- 
merce. It has said very clearly that the business of manu- 
facturing, among other things, is not so included. As a 
consequence of the interstate commerce clause of the Fed- 
eral Constitution, and the interpretation given it by the 



414 THE TRUST PROBLEM 

Supreme Court, a peculiar situation has arisen. Congress 
has been unable to exercise any efficient control over the 
trusts because their primary purpose is manufacturing, 
and the interstate commerce in which they are engaged can 
be so carried on as to evade any prohibition yet devised, 
except such as would act as a serious check upon business 
generally. The States, on their side, have full power to 
control the trusts as manufacturing corporations, but may 
not interfere with any interstate commerce in which they 
are interested. Thus a State can prevent a corporation, 
organized as a trust, from carrying on manufacturing 
within its limits, but it cannot prevent a corporation hav- 
ing its plants in other States from shipping its goods to 
dealers within the first State and selling them, as the latter 
would be an interference with interstate commerce. Under 
these circumstances, effective control of the trusts by the 
States can only be secured when all are ready to unite on 
similar laws having this object in view. Up to the pres- 
ent time little progress towards such united action appears 
to have been made. As an offset to the drastic anti- 
trust laws of some of the States, others and notably New 
Jersey, Delaware, Maine and West Virginia, have deliber- 
ately liberalized their corporation laws so as to afford 
an asylum for the trusts for the sake of the large revenue 
that is to be obtained from them. Before considering the 
ways in which the country may hope to free itself from this 
dilemma, something should be said of the common-law 
aspects cf the question. 

Legal basis for a certain amount of control over the 
trusts is found in the common law. It has long been held 
that certain " contracts in restraint of trade " are un- 
enforceable at law and that " monopoly " itself is unlaw- 
ful. Historically, " a contract in restraint of trade," in 
the legal sense, is a contract under which one party under- 
takes not to engage in a certain occupation under certain 
conditions. Not even all such contracts are unlawful, and 



ANTI-TRUST LEGISLATION 415 

but for the fact that American courts are inclined to 
stretch the phrase so as to include under it all contracts 
having monopoly as their object, the prohibition would 
have little significance for the trusts. The phrase " mo- 
nopoly " has also, regarded historically, a restricted mean- 
ing. It denotes exclusive privileges confirmed by charter, 
or " legal monopoly." Here, again, American courts have 
shown a tendency to break away from the historical mean- 
ing of the word and to use it in its proper economic sense. 
Although there is some difference of opinion among judges 
as to the scope of the common-law prohibitions against 
contracts in restraint of trade and monopoly, the tendency 
seems clearly to be to extend these terms to the more ob- 
jectionable practices of the trusts. Many go so far as to 
maintain that the common law furnishes a complete remedy 
for the trust problem so far as the trusts present a 
problem. 

214. Anti-Trust Legislation. — Anti-trust acts were 
passed in Kansas, Maine and Michigan in the year 1889. 
Congress followed in 1890 with the so-called " Sherman 
Anti-Trust Law." Other State legislatures were not slow 
to fall in with the precedents so established, and at pres- 
ent more than thirty of the Commonwealths have anti- 
trust acts on their statute books. Some of these, like the 
Illinois Act of 1893, have been declared unconstitutional 
on the ground that they impose undue restraints on per- 
sonal liberty. The Federal Anti-Trust Act declares specifi- 
cally that " every contract, combination in the form of a 
trust or otherwise, or conspiracy, in restraint of trade or 
commerce among the several states, or with foreign na- 
tions," is illegal, and that " every person who shall monop- 
olize, or attempt to monopolize, or combine, or conspire 
with any other person or persons to monopolize any part 
of the trade or commerce among the several states or with 
foreign nations, shall be deemed guilty of a misdemeanor." 
This prohibition, although intended to prevent industrial 



416 THE TRUST PROBLEM 

combinations, has been so interpreted by the courts that it 
has not thus far (1908) been applied to any of those or- 
ganized as single corporations or holding companies. 
Suits are now pending, however, against the Standard Oil 
Trust, the Tobacco Trust and other industrial combina- 
tions and it is possible that the selling aspect of the busi- 
ness of these great combinations may be so impressed on 
the courts that they will adjudge them guilty of violating 
the Federal act and order their dissolution. The outcome 
of these suits must be awaited with keen interest by all 
students of the trust problem as it will have a decisive in- 
fluence on the future of the movement in the United States. 
The anti-trust acts of some of the States have been even 
more sweeping in their condemnation of combinations than 
the Federal statute. If literally interpreted, some of them 
would, as has been well said, prohibit the most ordinary 
forms of business contracts. They proceed on the assump- 
tion that combination is contrary to public policy and at- 
tempt the impossible task of restoring the world to that 
stage of industrial development in which every producer 
was independent, and a competitor of every other producer. 
Fortunately the courts have not attempted literal enforce- 
ment, but in their efforts to give such acts a reasonable in- 
terpretation they have deprived them of much of their 
significance. The experience of Texas, which succeeded in 
excluding the Standard Oil Company as a corporation 
only to have one of the paid agents of the latter come in, 
nominally as a private individual, and secure a large inter- 
est in the Beaumont oil field, is fairly typical of that of 
other States. It is the sober conviction of most stu- 
dents of trust legislation that the attempt of the States 
to suppress the trusts must prove futile. Armed with 
New Jersey charters, the trusts have been able, by fair 
means or foul, to maintain themselves in most markets 
against the most stringent anti-trust acts. In the light of 
this experience, the opinion is becoming general that the 



THE BUREAU OF CORPORATIONS 417 

solution of the trust problem lies not in repression, but in 
national regulation. 

215. The Bureau of Corporations. — An important first 
step in the direction of regulation was taken by Congress 
when it established, as a part of the new Department of 
Commerce and Labor, a Federal Bureau of Corporations 
(Act of February 14, 1903). This Bureau and the Com- 
missioner at its head are charged " to make diligent investi- 
gation into the organization, conduct and management of 
the business of any corporation, joint stock company, or 
corporate combination engaged in commerce among the 
several States or with foreign nations, excepting common 
carriers, . . . and to gather such information and data 
as will enable the president of the United States to make 
recommendations to Congress for legislation for the regu- 
lation of such commerce." Although this Bureau has 
been in operation but five years, it has already gone far 
towards justifying the belief that the most effective 
remedy for unfair methods of competition is publicity. 
Its investigations and reports were a potent influence in 
bringing about the important amendments to the Inter- 
state Commerce Act which have resulted in the entire sup- 
pression of discriminatory practices on the part of the 
railroads. Moreover it is collecting the information which 
will be indispensable to the carrying out of a positive 
policy of trust regulation, whenever such a policy shall 
be initiated. 

216. Plans for Obtaining Legal Control over the 
Trusts. — Under the system of divided powers created by 
the Federal Constitution, three possible ways of dealing 
with the trusts appear to be open. The plan which, if 
feasible, would be most certain to attain the desired object 
would be for Congress and the State legislatures to enact 
concurrent laws which would subject both the commercial 
and the manufacturing aspects of these businesses to similar 
restrictions. As already suggested, little progress has as 



418 THE TRUST PROBLEM 

yet been made in this direction because of the diverse in- 
terests which the different States have in the trusts. It 
may be dismissed as impracticable. A second plan for 
dealing with the trusts is to leave their regulation entirely 
to the States. Congress has power to control interstate 
commerce, and may, therefore, it is held, delegate such con- 
trol to the State legislatures. If armed with full power 
over industrial combinations, the States, it is claimed, 
would be able to solve the trust problem independently. 
This proposal is open to the same objection as the preced- 
ing plan, and is also distinctly retrogressive. One of the 
chief reasons for assigning to Congress control over inter- 
state commerce was experience of the narrow and selfish 
policies the States pursued so long as such control was left 
to them. To return to this condition of affairs, even with 
respect to the trusts, would be unendurable. On these 
grounds this plan, also, may be dismissed as inadequate. 

Alternative to the proposal to vest exclusive control of 
the trusts in the State legislatures is the third plan, that of 
giving such control to Congress. This might be accom- 
plished, of course, by constitutional amendment, but it is 
generally agreed that, at least for the present, an amend- 
ment having this object in view would have little chance of 
enactment. In lieu of this direct method, Congress might 
obtain control over the trusts by forcing them to incorpo- 
rate under a Federal statute in which were prescribed such 
conditions as were deemed desirable. The powers under 
which Congress might legally compel the trusts to become 
national corporations are various. It might declare that 
no corporation without a Federal charter could engage in 
interstate commerce. Even the ingenuity of corporation 
lawyers would find it difficult to evade such a prohibition 
as regards some phases of the business in which every trust 
is engaged. If this policy seemed too drastic, it might im- 
pose a prohibitive tax upon the interstate traffic of State 
corporations, as was done to force State banks issuing 



PLANS FOR OBTAINING CONTROL 419 

notes to become national banks. Or it might make incorpo- 
ration under the Federal statute a condition to the enjoy- 
ment by a corporation of the protection of the patent laws, 
which is an important privilege to most of the trusts. 
Finally, it might proceed against State trusts as it pro- 
ceeded against lotteries, by forbidding to them the use of 
the mails. It can hardly be doubted that through one or 
other of these measures all corporations engaged in busi- 
ness which extended beyond the limits of a single State 
might be compelled to subject themselves to national regu- 
lation. The most serious objection to such regulation is 
that when it was once entered upon it could not stop until 
control over business relations, which in the American 
scheme of government has been vested in the States, was 
transferred almost in its entirety to Congress. Such a 
large proportion of the business of the country is now 
conducted by corporations and such a large proportion 
of the corporations extend their field of operations beyond 
the limits of a single State, that the policy considered 
would enormously increase the powers of Congress at the 
same time that it reduced to very low terms the powers of 
the States. Many persons shrink from such a radical de- 
parture from inherited traditions in reference to State 
rights and local self-government. Natural as is this feel- 
ing it must give way before the growing sense of national 
industrial solidarity to the conviction that businesses which 
are national in their scope must be regulated, if regulated 
at all, by national authority. Only in this way, it is be- 
lieved, can the best interests of the whole people be safe- 
guarded. This last plan of regulation appears, there- 
fore, to be the only one that is both practicable and ade- 
quate to the situation. 

Assuming the trusts to be brought squarely under Con- 
gressional control, as are the national banks and the inter- 
state railways, we must consider the regulations which 
ought to be applied to them. What these are was sug- 



420 THE TRUST PROBLEM 

gested in what has been said of the illegitimate practices of 
the trusts. 

The most important reform, that is, putting a stop to 
railroad discrimination in favor of the trusts, appears to 
have been accomplished already by the legislation of 1906. 
The second reform called for, preventing discriminatory 
practices on the part of the monopolistic trusts themselves, 
might be brought about by making unfair methods of com- 
petition in general unlawful and leaving it for the courts 
to decide, on the basis of information collected by the 
Bureau of Corporations, when unfair methods were used. 
Finally, contracts under which dealers were required to 
boycott other than trust-made goods should also be pro- 
hibited, and machinery should be created for making 
such prohibition effective. Through these measures unfair 
competition, which has too often characterized the prac- 
tices of the trusts in the past, might, it is believed, be 
suppressed. 

In addition to bringing the trusts squarely under its 
control and putting an end to unfair methods of competi- 
tion, it would be highly desirable for Congress to revise 
the tariff so as to subject monopolistic combinations to the 
wholesome stimulus of foreign competition. Such changes 
are especially called for in the case of trusts which have 
secured control of the important sources in the United 
States of the raw materials which they use, as have, for 
example, the United States Steel Corporation and the In- 
ternational Paper Company. These businesses have many 
of the characteristics of natural monopolies so long as they 
are protected from foreign competition, and for this rea- 
son to withdraw the protection of which they are the bene- 
ficiaries would seem to be along the line of sound public 
policy. 

217. The Future of the Trusts. — The general uneasi- 
ness excited by the growth of the trusts during the earlier 
years of the movement has, in the light of experience, some- 



THE FUTURE OF THE TRUSTS 421 

what abated. It is now recognized that the trust form of 
organization is adapted to rather a limited number of busi- 
nesses, and that only in a few cases can combination actu- 
ally succeed for any length of time in suppressing com- 
petition. At the same time, the reasons for the success 
of those trusts which have succeeded are coming to be more 
generally understood and public opinion is being educated 
to discriminate between the legitimate and illegitimate prac- 
tices of the combinations. The future of the trusts in the 
United States depends very largely upon the promptness 
with which unfair methods of competition are prevented. 
If effective measures are taken to prevent rate discrimina- 
tions on the part of the transportation companies and 
price discriminations and unfair contracts with retailers 
on the part of the trusts themselves, it is believed that the 
movement towards combination will be checked, and that 
such combinations as continue to be effected will have back 
of them reasons not opposed to public policy. For behind 
the trust movement are more solid and creditable motives 
than the activity of unscrupulous promoters and the 
monopoly hunger of greedy manufacturers. The economies 
of combination are in many cases both real and substan- 
tial and a public policy that opposes all forms of combina- 
tion is as unenlightened as it must in the long run be 
futile. 

The most effective weapon wielded by the public for 
dealing with the trusts, as with other actual and potential 
monopolies, is the consumer's power to substitute other 
goods for those which the trusts enhance in price. As 
consumption and processes of production become more 
varied in their range, this power acquires wider scope. 
It already effectually precludes excessive profits to any 
very large number of businesses and limits the monopoly 
problem to those few services and commodities which re- 
main indispensable to civilized existence, such as trans- 
portation facilities, coal, iron, petroleum, salt, sugar, etc. 



422 THE TRUST PROBLEM 

As time goes on, invention and discovery may still fur- 
ther narrow the list of such articles and services, but prob- 
ably never to such an extent as to make the monopoly 
problem one of little importance to the economist. 



REFERENCES FOR COLLATERAL READING 

* Jenks, The Trust Problem; Report of United States Industrial 
Commission, Vols. I., II., XIII. and XVIII.; * Meade, Trust Finance; 
* Clark, Control of Trusts; * Ripley, Trusts, Pools and Corporations; 
Montague, Trusts of To-Day; Moody, Truth about the Trusts; * Im- 
ports of the Commissioner of Corporations; Tarbell, History of the 
Standard Oil Company; Montague, The Standard Oil Company; 
Jacobstein, The Tobacco Industry in the United States; BergVund, 
The United States Steel Corporation. 



CHAPTER XXIII 
PLANS OF ECONOMIC REFORM 

218. Four Plans of Economic Reform. — The industrial 
system which has been described and analyzed in the pre- 
ceding chapters leaves much to be desired. In proceeding 
now to consider different plans for its reform, we shall con- 
fine our survey to the four proposals that seem, at the 
present time, to merit most serious attention, that is, profit- 
sharing, labor copartnership, land nationalization and 
socialism. 

219. Profit-sharing. — One defect charged against the 
present industrial system is that workmen, upon whose 
labor and fidelity the success of business undertakings so 
largely depends, receive no share of profits. Wages con- 
stitute usually their sole compensation, irrespective of the 
gains of the entrepreneur who employs them. To give 
workmen a keener interest in their work various expedients 
have been devised, all of which may be described as forms 
of profit-sharing. 

One of the simplest methods of profit-sharing is that 
which causes wages to vary on a sliding scale with the 
price of the product. This has long been common in the 
mining and iron and steel industries of Great Britain, and 
is not unusual in the same industries in the United States. 
It is, however, open to grave objections, unless standard 
rates of wages are established as a minimum below which 
earnings are not to be depressed, no matter how low the 
price of the product may become. In every branch of 
industry prices are subject to variation and tend at times 
to fall below the normal expenses of production. The 

423 



424 PLANS OF ECONOMIC REFORM 

force which is relied upon to restore them at such periods 
is the unwillingness of entrepreneurs to continue produc- 
tion at a loss. Under the sliding-scale system, wages, a 
principal item among the expenses of production, fall as 
prices fall. The consequence may be that entrepreneurs 
can still produce at a profit even when the price is too 
low to afford a fair return to wage-earners. Under such 
circumstances the force relied upon to restore prices is re- 
moved and they may for some time remain below the level 
which permits a fair competitive return to all parties. A 
sliding-scale method of remuneration, which has not as its 
basis minimum wages, is thus a menace to the permanent 
well-being of the wage-earning class. Another objection 
to the sliding scale is that it assumes a constancy of rela- 
tion between the price of the product and the amount of 
the profits that does not in fact exist. Thus, anthracite 
coal-mine owners in the United States objected to the 
application of the system to that industry by the award 
of the Strike Commission already referred to (Section 
165) on the ground that their expenses of production 
were growing each year heavier as the mines grew deeper, 
and that higher prices in the future would add nothing to 
their profits and consequently give rise to no fund to be 
shared with their employees. Whether this position was 
justified in this particular case or not, there can be no 
doubt that changes in prices are too inaccurate indices of 
changes in profits to permit the extension of the sliding- 
scale system to many branches of business. 

A less objectionable, if more complex, method of sharing 
profits is for the entrepreneur to appraise his own services 
as worth a certain wages of management and to agree to 
distribute all profits above this sum to his employees — in- 
cluding himself as salaried manager — in proportion to the 
wages which they respectively receive. Such a distribu- 
tion of profits, if fairly carried out, offers the highest in- 
centive to all employees to contribute their maximum to the 



PROFIT-SHARING 425 

success of the business. If anything, it errs on the side 
of being overgenerous to workmen, since they are guaran- 
teed their wages whether there are any profits to distribute 
or not, whereas the wages of management of the entre- 
preneur can be paid only when profits equal at least to this 
amount have been realized. To obviate this difficulty it 
has sometimes been attempted to scale down wages pro- 
portionately when losses result in businesses which have 
adopted the practice of sharing profits. Logical as such 
a plan may seem, it is open to the fundamental objection 
that it makes workmen suffer for the mistakes of their 
employers. So long as employees have no voice in the 
management of the business in which they are engaged, 
they may rightly demand standard wages. If the em- 
ployer is willing to offer them in addition a share of his 
profits, they should and usually will show their apprecia- 
tion by attending more carefully to his interests. They 
should not be asked to share losses, however, as this would 
interfere with that elimination of unfit employers upon 
which progress so largely depends. 

Besides the plans for sharing profits described above, 
there are dozens of others of varying degrees of com- 
plexity. In mercantile trade it is not unusual to compen- 
sate salesmen with a certain percentage of their gross sales 
in addition to their salaries. Corporations are increas- 
ingly in the habit of paying bonuses to their employees out 
of the profits of each year's business. Several of them 
have introduced elaborate plans, such as that of the United 
States Steel Corporation, for selling stock to their em- 
ployees on favorable terms and paying them a premium in 
addition to the usual dividend on condition that they retain 
the stock and with it an interest in the success of the enter- 
prise. Some of these plans have been adopted upon hu- 
manitarian grounds, but most of them are simply enlight- 
ened expedients for increasing the interest which hired 
workmen feel in the quality and quantity of their work. 



426 PLANS OF ECONOMIC REFORM 

Modern business is a vast system of co-operation, and the 
principal criticism, from the point of view of production, 
that is to be urged against it is that the co-operation is so 
often grudging and half-hearted. Profit-sharing is a de- 
vice for bridging over the gulf between employers and 
employees by making the incomes of both depend directly 
upon the amount of profits. When adopted as a supple- 
ment to the payment of wages at standard rates it merits 
only commendation. It increases the productiveness of 
labor by giving workmen a livelier interest in the results 
of their toil. It adds to wages and thus permits work- 
men to attain to higher standards of living at the same 
time that it facilitates the accumulation by them of cap- 
ital. Finally, it renders the relations between employers 
and employees more cordial, and in this way prevents 
strikes and lockouts. Those who object to profit-sharing 
do so on the ground that it is a mere palliative, when what 
is needed is a radical change in the present industrial sys- 
tem. To judge of the soundness of this criticism we must 
pass to a consideration of the other plans of economic 
reform. 

220. Labor Copartnership or " Co-operation." — Labor 
copartnership, or " co-operation," as it is more com- 
monly called, goes a step further than profit-sharing by 
making workmen partners in the businesses in which they 
are employed. It is a plan for dispensing with the serv- 
ices of the entrepreneur, or the risk-taker, and substitut- 
ing for him a group of partners who both direct and carry 
out the undertakings in which they are engaged. Up to 
the present time labor copartnership has succeeded best in 
connection with trade, and especially retail trade. A 
brief description of its development in Great Britain, 
where it has enjoyed widest extension, will serve to intro- 
duce a discussion of its strong and weak features. 

Successful labor copartnership in England may be said 
to date from the year 1844, when the famous Rochdale co- 



LABOR COPARTNERSHIP 427 

operative store was founded by the twenty-eight " Roch- 
dale pioneers." As the same form of organization has 
been adopted by other co-operative stores in all parts of 
Great Britain since, a brief description of this store may 
be given. The needed capital was obtained by the issue 
of £1 shares to subscribing members, and on this invest- 
ment five per cent interest was regularly paid before profits 
were divided. Anyone might become an ordinary member 
on the payment of one shilling and was then entitled to 
trade at the store and receive a share of the profits 'pro- 
portionate to the amount of his purchases. The prices 
charged were about the same as those asked for similar 
goods in other stores and cash payments were required. 
Thus the advantage to the purchaser was the receipt every 
quarter of his share of the profits and the assurance that 
he was not being cheated in reference either to the quality 
of the goods bought or their prices. From a very small 
beginning the Rochdale store has grown to be a great 
enterprise, with thousands of members and hundreds of 
thousands of capital. It has even launched out into other 
fields than retail trade, as several manufacturing enter- 
prises are now run in connection with the store and its 
branches. There has been but one flaw in this develop- 
ment, and that is the abandonment by the Society of any 
pretense of dividing profits with employees. Its relations 
with the latter are like those of an ordinary business cor- 
poration, the co-operative feature being limited strictly 
to customers. 

The remarkable success of co-operative retail stores 
modeled after the Rochdale experiment emboldened the 
leaders of the movement to establish in 1864 the English 
Co-operative Wholesale Society for the purpose of buying 
jointly for retail co-operative stores on more favorable 
terms than they could secure by dealing with ordinary 
wholesalers and jobbers. The Wholesale was a success 
from the very start. By 1901 it had a membership of 



428 PLANS OF ECONOMIC REFORM 

over 1000 retail societies and a capital of nearly £2,500,- 
000, while its sales amounted to more than £7,500,000 and 
its profits to nearly £335,000. From buying its goods 
by wholesale from other manufacturers the Society soon 
passed to manufacturing for itself upon an extensive 
scale. It is now engaged in the manufacture of biscuits, 
cocoa, butter, preserves, sweets, boots and shoes, soap, 
candles, woolen goods, ready-made clothing, flour, lard, 
furniture, shirts, mantles, underclothing, etc., and it does 
its own printing and that of many of its members. In 
its management of its manufacturing establishments, it, 
too, has pursued the policy of the ordinary business cor- 
poration. It pays good wages, but it accords to its em- 
ployees neither voice in the direction of the enterprises in 
which they are engaged nor share in the profits. This 
fact must not be overlooked when the success of the Eng- 
lish Wholesale Society is cited as proof of the possibilities 
of labor copartnership. 

In 1868 the Scottish Co-operative Wholesale Society 
was launched on the model of its English predecessor. 
Its managers two years later introduced a profit-sharing 
feature, which has been retained ever since and to which 
the superior success of the Scottish Society is by some 
attributed. In 1901 the Scottish Society had over 600 
members and a capital of over £1,500,000; its sales aggre- 
gated over £5,700,000 and its profits nearly £250,000. 
When it is remembered that the population of Scotland is 
less than one-seventh that of England the significance of 
these figures is evident. 

22i. Difficulties in the Way of Successful Labor Co- 
partnership. — In contrast with this remarkable develop- 
ment of labor copartnership in Great Britain there are in 
the United States comparatively few successful co-operative 
experiments. In mining districts and in factory towns 
co-operative stores are not unknown and in farming re- 
gions, especially in the Middle West, co-operative cream- 



LABOR COPARTNERSHIP 429 

eries are found, but taken altogether these experiments 
affect as yet but a small part of the business that is regu- 
larly carried on in the country. The reasons for this 
slight development are to be sought partly in the peculiar 
industrial conditions of the United States and partly in 
the circumstances that have confined the spread of labor 
copartnership, even in Great Britain, to trade and a few 
branches of manufacturing. Co-operative activity im- 
plies a certain degree of homogeneity of thought and feel- 
ing on the part of a population and this is, for obvious 
reasons, less developed in the United States than in the 
older countries of Europe. It also requires a willingness 
to incur a good deal of trouble for the sake of the petty 
economies that are to be realized from dispensing with the 
middleman in business, and American workmen have not 
yet reached the point when they are willing to take this 
trouble. As time goes on local and national obstacles 
to the progress of the movement will give way, but there 
will remain the circumstances that everywhere limit labor 
copartnership to a few industries. 

Co-operative stores are able to succeed because the 
service they render is of a very simple character. They 
are sure of their customers. They may insist on cash 
payments and in this way avoid losses through unwise ex- 
tensions of credit. They need little initial capital and 
can usually obtain this without difficulty from the savings 
of workmen themselves. Through the growth of co- 
operation in retail trade, the " co-operative wholesale " is 
made possible, and through it in turn certain co-operative 
manufacturing industries may be developed. The Eng- 
lish Co-operative Wholesale Society has, as already re- 
marked, failed to apply the principle of labor copartner- 
ship to its relations with the employees in its manufactur- 
ing departments, and the reasons for its policy are not far 
to seek. Successful manufacturing requires intelligent 
and progressive management and large capital. Work- 



430 PLANS OF ECONOMIC REFORM 

men rarely appreciate the importance of the first or are 
in a position to supply the second. The consequence is 
that only in exceptional cases does labor copartnership 
succeed in manufacturing. When the capital is forth- 
coming, there is almost certain to be before long a dis- 
agreement in regard to the business management. As 
submission to the judgment of the salaried manager must, 
in the nature of the case, be entirely voluntary, disagree- 
ment is only too apt to lead to insubordination and dis- 
ruption. Even when capable managers are secured, there- 
fore, efficient control of a labor copartnership can hardly 
be maintained for any great length of time. But the 
chances are strongly against securing efficient managers 
because the workmen partners usually object to paying 
sufficiently high salaries. The difficulties in the way of 
securing capital for enterprises which require — as do 
many branches of manufacturing— investments of more 
than $1000 for each employee are even more serious. Few 
workmen have so much to invest, and those who have are 
likely to be particularly timid about risking it in untried 
fields. On the other hand, few capitalists care to lend 
their savings to labor copartners. 

Labor copartnership is an admirable substitute for the 
competitive system whenever and wherever it can succeed. 
It appeals to higher motives than mere self-interest and 
its influence upon the characters of those who engage in it 
is broadening and ennobling. As time goes on its exten- 
sion to ever wider fields may be confidently hoped for, but 
such extension must necessarily be gradual. All of the 
conditions upon which its successful operation depends — 
a fuller appreciation by workmen of the value of the serv- 
ices of business managers and organizers, a willingness on 
their part to take orders from bosses of their own choos- 
ing and finally an accumulation by them of capital — must 
be of slow growth. This does not lessen in the least the 
importance of labor copartnership as a plan of economic 



LAND NATIONALIZATION 431 

reform, but it shows the extent to which the present indus- 
trial system is adjusted to the character and attainments 
of the average man of the present day and emphasizes the 
truth that it can be displaced only as the average man is 
raised to a higher plane of thought, feeling and efficiency. 

222. Land Nationalization. — Profit-sharing and labor 
copartnership are plans of reform that may be and have 
been introduced without any change in law or in the func- 
tions of the state. Their extension depends upon purely 
voluntary methods, and their success may be gaged by 
their ability to hold their own in competition with other 
forms of business organization. Quite different is land 
nationalization, the plan of reform now to be considered, 
since it proposes a fundamental change in the present in- 
dustrial system, the abolition of private property in land. 
The grounds for this proposal have already been sug- 
gested in the analysis of production presented in earlier 
chapters. As there shown, one of the factors in the crea- 
tion of wealth is land and the natural powers associated 
with it. These are, broadly speaking, gifts of nature to 
man whose services contribute a share to the value of the 
product distinguishable in thought from the shares due to 
labor and to capital. In return for these services the 
income which we have called rent is paid to landowners. 
In the view of advocates of land nationalization this in- 
come is " unearned " by the private landowners who receive 
it and ought in justice to be diverted to the use of the 
whole community, either by means of taxation or through 
the outright expropriation of land by the Government. 
In order to determine the merits of this plan of reform 
we must consider the grounds which have, to the minds 
of thoughtful persons, justified the system of private prop- 
erty in land for so many centuries and the results that 
would be likely to follow such a radical change as that 
proposed. 

Private property in land was adopted in Great Britain 



432 PLANS OF ECONOMIC REFORM 

after centuries of experience of a kind of communal own- 
ership. The latter was found to be deadening to enter- 
prise and progress because it compelled the adoption of 
uniform methods of cultivation by the members of each 
rural community and because it offered no adequate in- 
centive to those large plans of improvement, such as the 
draining of marshes and the introduction of artificial fer- 
tilizers, to which English agriculture has owed so much. 
It is true that the system has had its dark side in that the 
transition to it afforded an opportunity for much fraud 
and injustice, and in that it has resulted in the forma- 
tion of great hereditary estates owned by absentee land- 
lords. Even with these drawbacks, however, it is be- 
lieved that the introduction of private property in land 
has resulted in national gain, and if measures had been 
taken, as they might easily have been, to prevent these 
evil results, the beneficence of the change would not admit 
of question. 

Even without the precedents established by European 
countries, it is highly probable that the early settlers of 
America would have adopted private property in land as 
the only system adapted to the conditions of a new coun- 
try. To attract colonists it was necessary to offer them 
every inducement. Guaranteeing them in the ownership 
of such land as they were able to reclaim from the wilder- 
ness and defend from the Indians seemed a small enough 
return for the hardships and privations which they were 
required to endure. Of course land was also secured at 
times on terms that had little regard to the general in- 
terest, but, on the whole, the results of the system have 
abundantly justified it. The liberal land policy which the 
country has pursued from the earliest period has been 
a chief factor in the rapid settlement of the American con- 
tinent. Unwise as it has undoubtedly been in some of its 
details, it can hardly be questioned that it has been, in its 
main features, sound and beneficent. 



THE PRESENT LAND PROBLEM 433 

223. The Present Land Problem. — An historical justi- 
fication of private property in land is quite a different 
thing from a demonstration that the system must endure 
until the end of time. At some period it is quite certain 
that this system, like others that preceded it, will cease 
to be adapted to industrial conditions and will need to be 
modified, if the best interests of society are still to be 
served. We have now to weigh the truth of the claim of 
advocates of land nationalization that this period has 
already come for the countries of the Western World. 

The principal advantages of private property in land 
are realized only when the owner is at the same time the 
occupier or cultivator. Under these conditions self- 
interest insures in most cases the most economical and 
progressive utilization of the land attainable. When, on 
the other hand, the owner is an absentee landlord, who 
leases the land to the occupier or cultivator, it can make 
little difference whether he is the administrator of a pri- 
vate estate or an official of a well-organized government. 
In either case the actual use made of the land must depend 
upon the terms of the lease and the efficiency of the lessor. 
It follows that the suitability of the present system of pri- 
vate property in land to present conditions hinges largely 
upon the question whether absentee landlordism both in 
town and country is coming to be the rule or whether this 
condition is still exceptional. 

Space will not permit an exhaustive analysis of the 
actual situation even in the United States, but a few 
facts may be mentioned as proof that in this country, at 
least as regards agricultural land, absentee landlordism is 
still exceptional and occupation and cultivation by the 
owner the rule. Thus, according to the census of 1890, 
72 per cent of the 4,565,000 separate farms in the country 
in that year were operated by their owners. The percent- 
age had decreased to 65 in 1900, but owing chiefly to an 
extension in the Southern States of the system of cultiva- 



434 PLANS OF ECONOMIC REFORM 

tion " on shares," which has the one advantage that it 
insures the owner's continued interest in the methods of 
cultivation practised by the tenant. 

In towns and cities the situation is far less favorable to 
the present system of private property in land than in the 
country. Moreover there is reason to think that, espe- 
cially in large cities, absentee landlordism is becoming 
more and more the rule, for the simple reason that more 
and more people are coming to live in tenement and apart- 
ment houses.* If this is the case, there may be good 
ground for the contention that the system of private 
property in land is ceasing to serve any useful purpose in 
cities which the system of public ownership would not 
serve as well and that the time is ripe for a gradual tran- 
sition to the latter. 

224. The Single Tax. — The plan for diverting the in- 
come we have styled rent from private landowners to the 
Government that has attracted most attention in the 
United States is called by its advocates " the single tax," 
a name given it by its author, Mr. Henry George, in his 
widely read book, Progress and Poverty. Before we con- 
sider the practical aspects of the land question a few words 
should be said about this work and its proposal. Mr. 
George's avowed purpose in writing Progress and Pov- 
erty was " to seek the law which associates poverty with 
progress and increases want with advancing wealth," and 
in it he attempts to prove that this law results from the 
institution of private property in land, which, he believes, 
causes the benefits of progress to redound to the exclusive 
advantage of landowners. Diverting these benefits to the 
whole community by means of a " single tax " on land 
rent would, he thinks, " raise wages, increase the earnings 
of capital, extirpate pauperism, abolish poverty, give re- 
munerative employment to whoever wishes it, afford free 

* Already in New York City but one family in nine owns its place 
of residence. 



THE SINGLE TAX 435 

scope to human powers, lessen crimes, elevate morals and 
taste and intelligence, purify government, and carry civ- 
ilization to yet nobler heights." The argument by which 
he arrives at this gratifying conclusion is too elaborate 
to reproduce in brief compass, and this is the less neces- 
sary because there is no evidence of the truth of the law 
for which he seeks an explanation and whose existence is 
vital to his whole contention. Poverty has undoubtedly 
persisted in spite of progress, but that it has increased 
with progress is directly contrary to the fact. Equally 
unwarranted is the assumption on which his conclusion 
rests that every improvement in productive power tends 
to increase rents. This could only be the case if the pop- 
ulation of each country had an absolutely rigid standard 
of living and responded to every improvement by multi- 
plying until the margin of cultivation was lowered to a 
point at which wages were no higher than before. If 
such were the fact, no real progress for the mass of the 
people would be possible under any industrial system. 

Henry George's extreme claims, both as to the need for a 
radical remedy for present economic evils and as to the 
benefits that would result from his " single tax," were ex- 
travagant and unwarranted, but his proposal ought not 
to be dismissed on these merely negative grounds. The 
influence which Progress and Poverty has exerted over its 
hundreds of thousands of readers has been due, not to the 
novelty or profundity of its argument, but to the sincere 
desire to benefit humanity which so clearly inspired the 
author in its composition. The plan suggested should be 
considered in no meaner spirit, that is, with sole reference 
to its social utility. 

225. Objections to the Single Tax. — Among the objec- 
tions that may be urged against the single tax three 
merit particular attention: any single tax is undesirable; 
it would involve the wholesale confiscation of property ; in 
practice it could be carried out only in such a crude and 



436 PLANS OF ECONOMIC REFORM 

approximate way that it would lose many of the merits 
claimed for it. The first objection would be unimpor- 
tant did it not serve to show the extent to which belief 
in the single tax rests upon faith rather than upon rea- 
son. Henry George appears to have thought that there 
was a divinely ordained relation between the legitimate 
needs of government and the size of the rent fund, and 
that the last would always suffice to cover the first. This 
view overlooks the fact that the two are controlled by 
very different considerations. Of two cities of the same 
size and with the same aggregate rent roll, one might 
legitimately spend two or three times as much for public 
purposes as the other, if its citizens had developed to that 
degree superior appreciation of the importance of com- 
mon needs. Even if admirable in all other respects, nei- 
ther a rent-tax nor any other tax would be desirable as 
the single tax. 

The next objection is more fundamental and applies to 
all plans involving the sudden diversion of land or the in- 
come it affords to the common benefit. Such policies 
amount to confiscation and can only be justified on the 
ground that they are essential to general well-being. For 
centuries the law has permitted the private ownership and 
enjoyment of land. Pieces of land have changed hands 
on the average dozens of times in the United States, and 
present owners have in most cases acquired them not as 
free gifts of nature nor as grants from the Government, 
but by paying for them, just as they have had to pay for 
other species of property. To deprive them without com- 
pensation of their lands, or what amounts to the same 
thing, of the income which these lands afford, would be 
to commit a monstrous piece of injustice. Such injustice 
might possibly be countenanced if there were any rational 
grounds for sharing Henry George's expectations as to 
the results of such a policy, but in the absence of such 
grounds it must be condemned in unqualified terms. A 



DESIRABLE REFORMS 437 

state which would thus overturn an established institution, 
and confiscate by wholesale the property of its citizens, 
would lose the confidence of those citizens and be reduced 
to a condition of anarchy. Any increase in public revenue 
or reduction in other forms of taxation so secured would 
be bought at far too high a price. 

The third and last objection to the single tax is admin- 
istrative in character. Although the rent of land may 
be distinguished in thought from interest on capital in- 
vested in the land, it is often impossible to distinguish it 
in practice. As already pointed out, permanent improve- 
ments to land, such as draining marshes, or filling in hol- 
low places or leveling down elevations to adapt lots for 
building purposes, become indistinguishable from the land 
itself. For the Government to appropriate the entire 
income from improved land would be for it to place a 
ban upon further improvements. For it to appropriate 
only the true economic rent would, in many cases, be im- 
possible, as there is no means of calculating exactly the 
amount of that rent. Thus the carrying out of the 
single-tax program is confronted by serious practical 
difficulties. 

226. Desirable Reforms in the Present System of 
Land Ownership and Taxation. — Disapproval of the sin- 
gle tax by no means implies complete satisfaction with 
the present land system. At several points that system 
calls for reform, and all the more urgently because in con- 
nection with land ownership and taxation to postpone 
changes is to render them more difficult of accomplishment. 
It will be possible in these pages merely to indicate in out- 
line the reforms which, in the opinion of the author, would 
be especially desirable in the United States. 

As regards the Federal Government, the changes in pol- 
icy that are called for have in view the more careful con- 
servation and more economical utilization of the public 
domain. Vast tracts should be set aside as forest reserves. 



4S8 PLANS OF ECONOMIC REFORM 

Other vast tracts, suitable only for cattle and sheep 
ranges, should be leased on terms that will insure their 
conservation and at the same time afford a revenue to the 
Government. Still other public lands, valuable for the 
mineral wealth which they contain, instead of, as at pres- 
ent, being sold for much less than their prospective, or 
even actual, value, should also be leased on terms suf- 
ficiently liberal to encourage the prospector and the mine 
investor, and yet calculated to secure for the public treas- 
ury a proper share of these stores of natural wealth, 
which up to the present time have served almost exclu- 
sively to swell the fortunes of private individuals. Finally, 
the policy embodied in the Homestead Act of practically 
giving a farm of 160 acres to every bona fide home-seeker 
who will cultivate it, should be amended to conform to 
present conditions. On the one hand, provision should 
be made by which the Government would receive a more 
adequate return for the superior tracts of agricultural 
land withdrawn from time to time from the Indian reser- 
vations and thrown open to settlement. On the other, Gov- 
ernment lands benefited by the large irrigation projects 
that are carried through with public funds should be sold 
on terms that would enable the Government to get at least 
a partial return for its investment. Experiments should 
also be made with different forms of leasehold tenure even 
in connection with agricultural land, to test by actual 
experiment the truth of the proposition that no other 
form of control is as favorable to the best utilization of 
farm land as outright ownership on the part of the 
cultivator. 

Next to the Federal Government the political units most 
interested in the land problem are the cities of the country. 
This is because, first, modern cities themselves require a 
constantly increasing proportion of the land within their 
limits for parks, schools, playgrounds and other public 
purposes; second, in cities the public interest demands a 



DESIRABLE REFORMS 439 

larger degree of public control over the uses to which 
landowners may put their property than is necessary in the 
open country, and third, a principal source of city rev- 
enue is the tax on real estate. Each one of these reasons 
suggests a line of development which the future land pol- 
icies of American cities should follow. Cities must become 
landowners on a greater and greater scale if the best in- 
terests of their citizens are to be cared for. Not only are 
the public purposes referred to, parks, schools, play- 
grounds, etc., expansive, calling for more and more space 
for their realization as higher standards are developed, 
but there are other purposes little less important that re- 
quire the city to acquire land. Undesirable tenement- 
house properties must be condemned and clean and whole- 
some tenements substituted. Sometimes the best method 
of effecting this change is for the city to buy the land and 
itself control the new improvements to be erected upon it. 
What this may in time lead to is indicated by the situa- 
tion in some German cities where a considerable propor- 
tion of the land within the city belongs to the municipality 
and is so well administered that no one is in favor of re- 
turning to the older system of larger private land own- 
ership. The administration of few American cities is so 
efficient as to make development along this line imme- 
diately desirable, but no one familiar with what is going 
on in other countries can doubt that as efforts for munici- 
pal reform bear fruit in better government, the cities of 
the United States will also become landlords on a larger 
and larger scale. 

The necessity for rigid control over the uses to which 
land in cities is put is obvious. Not only must uses which 
will be offensive to the neighborhood be prohibited and 
building materials that will not readily catch fire insisted 
upon, but the height and proportionate lot area of build- 
ings must be prescribed, the location of factories regulated 
and, in general, the public interest protected at all points 



440 PLANS OF ECONOMIC REFORM 

where it would be sacrificed if free play were given to the 
selfish private interests of landowners. 

The last line of development calls for an increase in the 
burden of municipal taxation that shall fall upon the land. 
As advocates of the single tax point out there are several 
reasons why a tax on the land within its limits is a pecu- 
liarly suitable source of revenue for a developing city. 
First, it is a tax which falls, where it is intended to fall, 
on the landowner, who can neither shift it nor evade it. 
Second, notwithstanding the, fact that landowners must 
pay it, an old land tax after a time ceases to impose upon 
them a burden of which they are conscious. This is be- 
cause it is the net rent, that is, the gross rent less taxes 
and other necessary deductions, that is considered when 
land is valued. When a piece of land changes hands the 
price paid makes full allowance for the taxes that are reg- 
ularly imposed. The land is bought subject to taxation 
and the new owner thinks not of the gross rent but only 
of the net rent as the income to which he is fairly entitled. 
Third, the increase in the rents and prices which city lots 
command as compared with open fields, is due chiefly to the 
growth of the city and to improvements for which the city 
has paid. It therefore seems but just that a large part 
of the income received from city lots should go to the city 
treasury. On these grounds and others of a more tech- 
nical character a gradual increase in the proportion of 
municipal taxation that falls on land, as distinguished 
from improvements and different forms of personal prop- 
erty, is much to be desired. 

The above proposals do not exhaust the land question 
but they serve at least to indicate some of the ways in 
which the land policies of the Federal Government and of 
American cities may be modified so as to adapt the coun- 
try's land system to the economic and political conditions 
of the twentieth century. As these conditions change fur- 
ther modifications will be desirable until at length the ideal 



THE MEANING OF SOCIALISM 441 

that land and natural resources, as gifts of nature to man, 
shall be used primarily for the advantage of the whole 
community, may be completely realized. 

227. The Meaning of Socialism. — The last and most 
radical plan of economic reform is what we have desig- 
nated as " socialism." As the term is here used, it refers 
to the proposal to reorganize industrial society by trans- 
ferring to the state, or its agent, the government, con- 
trol over land and the instruments of production, which 
we have called capital goods, and by confining private 
property to the things which minister directly to the grat- 
ification of wants, that is, consumers' goods. As owner 
of all land and capital the state would also be director of 
all industrial undertakings. All business managers and 
workmen would become government officials, employed in 
government enterprises and remunerated according to 
some plan prescribed by the government. Private initia- 
tive and competition in industry would be superseded by 
state initiative directed by the special departments of the 
Government entrusted with the management of industrial 
affairs. 

Although agreeing on these main points, socialists differ 
widely as to the details of the industrial system which they 
propose and also as to the means by which it is to be real- 
ized. One group, which we may conveniently designate as 
" communists," advocates an equal per capita division of 
the products of industry, the latter being valued in pro- 
portion to the units of labor time involved in their pro- 
duction. Another group recognizes that the needs of dif- 
ferent individuals differ as widely as do productive capaci- 
ties and defines as its ideal " production by each accord- 
ing to his capacity and distribution to each according to 
his need." Still others content themselves with the opti- 
mistic prediction that under socialism there will be an 
abundance of goods of all kinds and that the problem of 
distribution will consequently offer no difficulties. 



442 PLANS OF ECONOMIC REFORM 

As regards means of realizing socialism, one group, 
which we may designate as the revolutionary socialists, 
looks forward to a general uprising on the part of the 
masses who will first obtain control of the Government, 
then confiscate all land and capital goods and finally in- 
augurate the system of state-directed industry. Another 
group condemns revolutionary measures and looks forward 
to a gradual transition to socialism through a step-by- 
step extension of the functions of government, to be de- 
fended at each stage not by any preconceived preference 
for socialism, but by the exigencies of each situation. 
Still another group looks for the new system as the result 
of a revolutionary, but entirely voluntary, change ap- 
proved by all classes, because the competitive system will 
have become intolerable. These differences as regards 
both the ideal in view and the means to its attainment ren- 
der difficult any general characterization or criticism of 
socialism as a plan of economic reform. In what follows 
we must content ourselves with reviewing some of the ad- 
vantages claimed for socialism and some of the practical 
difficulties which oppose its introduction. 

228. Advantages Claimed for Socialism. — The advan- 
tages claimed for socialism are both economic and moral. 
In contrast with the present system of production, which 
is wasteful and haphazard, it contemplates a system under 
which the economic needs of the community will be accu- 
rately estimated and the available land, labor and capital 
carefully apportioned, so that the quantity of each kind 
of good required will be produced. The duplication of 
plants and the excessive production of particular goods, 
now so common, will be avoided, the expenses of advertis- 
ing and competitive selling will be saved and, finally, the 
production of goods that are harmful rather than bene- 
ficial to those who consume them will be suspended. As 
a consequence of these improvements on present practices 
there will be, it is claimed, an immense saving of productive 



OBJECTIONS TO SOCIALISM 443 

power, which may be utilized either to add largely to the 
volume of goods produced, to shorten the hours of labor 
or to combine both advantages to the benefit of mankind 
both in its consuming and in its producing capacity. 

The moral advantages claimed for socialism are even 
more noteworthy. Instead of depending upon self-interest 
as a spur to industrial activity, socialism relies upon the 
love of activity for its own sake, the desire to contribute to 
the common good, the sense of duty in the performance of 
tasks that are largely voluntary and the ambition to win 
social esteem and social distinction through conspicuous 
social service. It is labor copartnership extended and 
systematized to embrace the whole industrial field and has 
the same moral advantages over competition as has con- 
scious co-operation. Under socialism all men would live 
literally as brothers, sharing in the common toil and enjoy- 
ing each his portion of the fruits of that toil. 

229. Objections to Socialism. — It is unpleasant to con- 
trast the socialistic dream as it is unfolded, for example, 
in such a work as Bellamy's Looking Backward with the 
hard facts of life and of human nature, but no less drastic 
a course can serve to present in their true light the obsta- 
cles in the way of the realization of socialism. Men as they 
are are fond of activity for its own sake, to be sure, but 
not usually of the sort of activity for which they are best 
fitted in their role as producers of wealth. If this motive 
were alone to be depended upon, not ten in a hundred 
would be likely to declare themselves in favor of useful 
forms of activity. The other ninety would content them- 
selves with pure play, finding their gratification in it 
partly, it must be confessed, because it is entirely disso- 
ciated from any productive result. The desire to con- 
tribute to the common good would, doubtless, hold a larger 
number to the tasks best suited to their capacities, but the 
slight extent to which this desire is developed must impress 
anyone who observes the conduct of people toward forms 



444 PLANS OF ECONOMIC REFORM 

of public property, like parks and monuments. The 
horizon of the average man is still painfully limited and 
the sacrifices he is willing to make for the vague public 
beyond his family and immediate circle of friends is small, 
except in moments of excitement when his social conscious- 
ness is aroused out of its habitual lethargy. The sense of 
duty is also a motive that could not safely be relied upon 
to hold many men to the monotonous daily round which is 
necessary to efficient production in many, if not in most, 
departments of industry. Finally, the desire for social 
esteem and social distinction, which is certainly strong in 
the average man, is neutralized as a motive to industrial 
activity because in practice public opinion is very undis- 
criminating in its judgments. It rarely accords applause 
where and at the time applause is due, and it is very apt 
to reward with its approval quite unworthy candidates for 
its recognition. Some system of graded honors, like deco- 
rations or titles, might be devised, similar to those already 
in vogue to reward men for signal services on the field of 
battle, but that these would hold the rank and file of the 
industrial army to their tasks in the absence of other in- 
centives will hardly be claimed by anyone. It is believed 
that these considerations admit of but one conclusion, 
namely, that the motives to industrial activity on which so- 
cialism relies are all too weak and that some form of com- 
pulsion would have to be called in to supplement them if the 
system was to be put into practical operation. But com- 
pulsion is tyranny, and whether practised by a selfish 
despot or by an enlightened majority seeking only the gen- 
eral good, must react disastrously on the characters of 
those concerned in it. Until socialism can be realized 
without it or without more of it than is now necessary to 
keep the enemies of society in order, its moral superiority 
over the present competitive system may well be ques- 
tioned. At some future time, when men and women of a 
higher type compose society, socialism may prove prac- 



OBJECTIONS TO SOCIALISM 445 

ticable, but it does not seem to be adapted to men and 
women as they now are. And, it may be added, when 
human beings are so perfected that the motives on which 
socialism relies are dominant, it will make little difference 
what form of industrial organization is adopted. Com- 
petition among such individuals will be, as it now is at its 
best, merely a generous rivalry between upright and fair- 
minded men, tempered by regard for the interests of 
others and restrained by legal prescriptions. Such com- 
petition might result in industrial relations as ideally per- 
fect as those pictured in connection with socialism, and if 
these relations do not now prevail it is not chiefly because of 
the industrial system under which we live, but because of the 
imperfections of the men and women who compose society. 
Although less serious than the psychological obstacles 
to the realization of socialism, the administrative obstacles 
are sufficiently formidable. A few of them only will be 
referred to : Assuming a population disposed to give social- 
ism a fair trial and the Government in control of all land 
and capital goods, a first difficulty would be in connection 
with the assignment of occupations to individual citizens. 
The interests of production would require a certain quota 
of workmen in each department of industry. But how, 
in the absence of compulsion, could these quotas be se- 
cured? Under the present system the division is accom- 
plished by the simple operation of the law of demand and 
supply. Branches of production that are inadequately 
manned attract more workers by offering them some- 
what higher wages than are paid in other occupations. 
What corresponding inducement could be offered under 
socialism? Is it not probable that in the absence of 
compulsion or of wages apportioned to the competitively 
determined value of the service rendered, certain employ- 
ments would attract many more workmen than were needed 
while others would be avoided? One writer has suggested 
that the distribution of the available labor force could be 



446 PLANS OF ECONOMIC REFORM 

accomplished by shortening the hours of employment in 
unpopular occupations until they attracted their quota of 
workmen. This might prove a workable solution of the 
difficulty, but its practical operation would involve ob- 
viously a high order of administrative ability on the part 
of the directors of the nation's industries. 

A second difficulty concerns the determination of the 
values of different economic goods. Since these are pro- 
duced on government account quite independently of mar- 
kets and the higgling of markets, such determination 
would have to be made through the application of some 
administrative rule. One rule proposed is that each good 
be valued in proportion to the labor time involved in its 
production. But how could such labor time be measured? 
What quality of labor should be selected as a standard? 
Should the product of a day's labor of a talented artist 
be valued the same as the products of the labor of a ma- 
chine tender? If so, will there not be a continuing dis- 
crepancy between the demand for and the supply of the 
former? Shall no allowance be made for the part which 
land and capital goods play in production? The bare 
statement of these questions suggests the complexity of 
the problem which would confront the Government in con- 
nection with the mere valuation of the products of its 
farms and factories. 

A third difficulty concerns the decision as to the quan- 
tities of different goods to be produced from year to year, 
and especially as to the proportions of the labor time of 
the community that should be devoted to the production 
of capital goods and of consumers' goods, respectively. 
Each community would have it in its power to neglect 
entirely the interests of the future by failing to replace 
or add to its stock of capital goods, or to provide abun- 
dantly for future requirements by devoting all the labor 
time not needed for the production of current necessaries 
to the production of such goods. What principle could 



THE SOCIALISM OF KARL MARX 447 

guide government officials in deciding wisely on this all- 
important question? Would they not, as elected officers, 
be under a constant temptation to win popular favor by 
adding to the current supplies of goods at the expense of 
the fund of capital? 

Finally, there would be the difficulty of deciding as to 
the relative merits of different methods of production. If 
progress were to continue, improvements on current meth- 
ods would be constantly necessary. How much labor time 
should be diverted from the routine of production along 
old lines to industrial experiments? Who would deter- 
mine when an experiment in a given direction should be 
abandoned as barren of result? Who would say when an 
old process and old machinery should be given up and a 
new process and new machinery substituted? In actual 
industrial society these questions are answered crudely, 
but effectively, through the impartial operation of compe- 
tition. The best process usually wins in the long run be- 
cause it pays best. Would the best process be as likely to 
be preferred under socialism? 

Many other difficulties might be suggested, but enough 
has been said to indicate the puzzling problems that would 
confront the directors of a socialistic state. These prob- 
lems may in some remote future be successfully solved, 
but it is safe to predict that socialism will not become a 
practical program of economic and social reform until the 
average citizen has developed a very different attitude 
towards public questions than he now displays nor until 
political machinery has been devised for securing and keep- 
ing in office public officials of much higher character and 
capacity than are commonly found among the elected 
officials of to-day. 

230. The Socialism of Karl Marx. — In the foregoing 
sections the ideals of the group we have styled evolutionary 
socialists have been chiefly considered. The other group, 
which we have styled the revolutionary socialists, looks 



448 PLANS OF ECONOMIC REFORM 

upon the present industrial system as fundamentally un- 
just. A main tenet in their creed is that the whole prod- 
uct of industry is due to labor, and should therefore go 
to labor, and that what landlords and capitalists take as 
rent and interest is practically stolen. The most elab- 
orate defense of this view is contained in the work of the 
German socialist, Karl Marx, entitled Capital, which un- 
dertakes to expose the iniquities of the present system and 
at the same time to show that it contains within itself the 
seeds of its own destruction. Although this type of social- 
ism no longer dominates the movement to the extent that 
it once did, it is still sufficiently prominent to merit special 
consideration. 

It is a fundamental error in analysis to ascribe the 
value of the products of industry to the labor involved in 
their production. Value, as already explained, is the joint 
result of utility and limitation of the supply. Under con- 
ditions of free competition value arises because of the cost 
involved in producing goods. This varies under different 
natural conditions and consequently rent appears. Under 
the least favorable natural conditions resorted to cost in- 
cludes not only labor, but also the sacrifice involved in 
supplying the capital indispensable to efficient production. 
The value of the product must be great enough to remu- 
nerate workmen and capitalists, or the inducement which 
causes those at the margin of doubt between saving and 
spending to save will be removed and the fund of capital 
will be reduced. The payment of interest is as just and, 
economically, as necessary as the payment of wages. It is 
the premium industrial society offers to those who will 
furnish it with the capital it needs and it is never higher 
than is necessary to secure this capital. It is true that 
much of the needed capital would be furnished if there 
were no premium, but it is equally true that many work- 
men, and especially those whose work is of most value to 
society, would work for nothing rather than abandon their 



CONCLUSIONS CONCERNING SOCIALISM 449 

chosen professions. In each case the reward is deter- 
mined by the character and motives of the marginal men 
in the group affected. In each case, moreover, the neces- 
sity of rewarding these marginal men gives a value to the 
product sufficient to reward at the same rate all men in 
the group. The interest capitalists receive is in no sense 
subtracted from the reward that goes to labor. It comes 
from the extra product due to the assistance which capital 
goods render to production, just as the wages of labor 
come virtually from the products of labor. In neither 
case is there any exploitation of one factor by the other. 
If this analysis is accurate the whole contention of Marx 
and his followers falls to the ground, and the present in- 
dustrial system is cleared at least of the charge of being 
based on the legalized robbery of the laboring by the 
propertied class. 

231. Conclusions in Regard to Socialism. — Although 
based on an incorrect analysis of economic relations in its 
revolutionary form and looking forward to a future so 
remote as to have little direct bearing on present-day 
problems in its evolutionary form, socialism is much 
more than a mere " philosophy of the unsuccessful " or 
" vision of deluded dreamers." As an ideal it appeals 
strongly to many men and women who are neither unsuc- 
cessful nor dreamers and it supplies them with an excel- 
lent standard by which to criticize the undoubted evils in 
the present economic situation. Such criticism is both 
helpful and harmful. So far as it serves to concentrate 
attention upon definite evils and to foster the belief that 
they are remediable, it is a valuable aid to constructive 
social reform. So far, however, as it tends to intensify 
class antagonisms and to teach wage-earners that they 
are the victims of legalized exploitation and that they 
must organize to despoil by force the owners of property 
who oppress them, it is a bar to true progress. It is re- 
assuring that in the United States, as well as in European 



450 PLANS OF ECONOMIC REFORM 

countries where socialistic parties are strongest, less and 
less attention is being devoted in socialistic literature to 
" exploitation," " the class struggle," etc., and more and 
more to the real evils of the present day and the remedies 
that may be immediately applied to them. 



REFERENCES FOR COLLATERAL READING 

Oilman, Profit-sharing Between Employer and Employee and A 
Dividend to Labor; * Schloss, Methods of Industrial Remuneration; 
Jones, Co-operative Production in Great Britain, 2 vols.; *Fay, 
Co-operation at Home and Abroad (1908); Annals of the English 
Co-operative Wholesale Society; Proceedings of the Congresses of 
the International Co-operative Alliance; * George, Progress and 
Poverty; Dawson, The Unearned Increment; Wallace, Land Nation- 
alization; * Shearman, Natural Taxation; * Wells, New Worlds for 
Old and A Modern Utopia ; * Spar go, Socialism ; Hunter, Socialists 
at Work; * Rae, Contemporary Socialism (includes chapter on "Sin- 
gle Tax"); *Kirkup, History of Socialism; Menger, The Right of 
Labor to the Whole Product; * Fabian Essays in Socialism; * Schciflle, 
The Quintessence of Socialism ; Marx, Capital, 3 vols. ; * Bohm- 
Bawerk, Karl Marx and the Close of His System; * Bellamy , Look- 
ing Backward and Equality. 



CHAPTER XXIV 
ECONOMIC PROGRESS 

232. The Nature of Economic Progress. — Economic 
progress is improvement in general well-being due either 
to increased command over economic goods or to reduced 
costs of production. It may show itself in increased earn- 
ings for the laboring masses, in shortened hours of labor or 
in an increased adaptation of work to the tastes and 
capacities of workmen. Definite as these criteria of prog- 
ress appear to be, it is unfortunately true that there are 
no means of comparing them accurately from generation 
to generation. Until recently few records were kept of 
the commodities which families in different circumstances 
were in the habit of consuming. Even those which are 
now preserved will be puzzling in many of their details to 
future economists because the goods consumed will have 
changed in kind and quality as well as in quantity. The 
impossibility of making exact allowance for such changes 
opposes a permanent barrier to accurate comparisons be- 
tween the standards of living of different periods. Similar 
difficulties are encountered in trying to gage changes in 
the sacrifices involved in production. If it can be shown 
that the length of the working day has been shortened, it 
may yet be claimed by the unbelieving that the intensity 
of labor has increased correspondingly, and there is no 
certain way of deciding whether or not this has been the 
case. Under these circumstances the economist must con- 
tent himself with comparing those objective indications 
of well-being, such as the rates of wages earned by work- 
men of different grades, the length of the working day, 

451 



452 ECONOMIC PROGRESS 

etc., which admit of measurement and appeal to the judg- 
ment of intelligent observers to determine whether these 
and other changes have really added to human welfare. 

Even so simple a question as that whether average wages 
have increased or diminished can be answered only after 
elaborate statistical investigation. In recent years care- 
ful studies of wage statistics have been made in many dif- 
ferent countries. It will be impossible even to summarize 
the results of these inquiries in these pages, but it may be 
asserted confidently that in the United Kingdom during 
the last one hundred years real wages have increased on 
the average not less than fifty per cent and that in the 
United States they have increased nearly, though appar- 
ently not quite, as much. As regards hours of labor the 
evidence of progress in both countries is equally con- 
clusive. The reduction has not been less than two a day, 
that is, the work day in different employments has been 
shortened from an average of from ten to fourteen hours 
to an average of from eight to twelve hours. As regards 
command over commodities and leisure time in which to 
enjoy them wage-earners generally are, therefore, dis- 
tinctly better off to-day than they were a century ago. 

233. Progress in Consumption and Production. — An- 
other method of gaging the extent and direction of eco- 
nomic progress is to review the changes that have occurred 
in the fields of consumption, production and distribution 
to determine whether they have been, on the whole, favor- 
able. In Chapter II. we considered the contributions which 
changes in wants and habits of consumption may make 
to general well-being. Progress in this field depends upon 
increasing attention to the laws of variety, of harmony and 
of least social cost, upon greater economy in consumption 
and upon the substitution for narrow and selfish luxury of 
more social uses of wealth. No one can compare impar- 
tially these aspects of the life of to-day and of life in the 
past, from the point of view of the average wage-earning 



PROGRESS IN DISTRIBUTION 453 

family, without being impressed by the remarkable advance 
that has been made. 

Even more obvious than progress in consumption is the 
progress that has been made in production. Invention and 
discovery have scored triumph after triumph since the 
first application of steam power to industry, and in every 
branch of business the productiveness of labor has been 
largely increased. Other causes contributing to this result 
have been the opening up to exploitation of new lands and 
new sources of mineral wealth, the growth of capital, im- 
provements in forms of industrial organization and the 
development of more capable and intelligent men and 
women. 

When the enormous multiplication of goods that has been 
made possible by these changes is considered, it may well 
seem surprising that the condition of wage-earners has not 
been improved even more than has been the case. To ac- 
count for this fact we must consider the progress that has 
been made in the field of distribution. 

234. Progress in Distribution. — Progress in distribu- 
tion results from changes which increase the command 
over goods enjoyed by the masses. To measure it the 
earning-power of the bare-handed, unskilled workman of 
one period must be compared with that of the same work- 
man of another, allowance being made for any change in 
the proportion which unskilled workmen bear to the whole 
population. The facts already cited indicate that wages 
have risen substantially, and yet the margin between the 
necessary expenses of the ordinary laboring family and its 
earnings is still painfully narrow, even in the United 
States, the country of high wages. 

The reasons why the average workman still receives 
such a small return have already been suggested. In the 
first place, the increased productiveness of industry has 
been due in large measure to improvements in the capital 
goods which assist production. The immediate tendency 



454 ECONOMIC PROGRESS 

of such improvements is to add to the earning power of 
capital, rather than to that of labor. This has been neu- 
tralized by a remarkable growth in the amount of capital, 
and the rate of interest must have fallen to a very low 
level had not population also increased at a remarkable 
rate. The net result of these changes has been a lower 
rate of interest on an immensely larger capital fund and 
a somewhat higher rate of wages for a greatly increased 
laboring population. A second point concerns the trend 
of rent. The opening of new lands to exploitation must 
have raised materially the margin of cultivation and thus 
reduced the rent fund, had it not been paralleled by the 
remarkable growth in population just referred to. The 
older countries of Europe have poured out millions upon 
millions of colonists to the new lands, but without, except 
in the single case of Ireland, reducing their own popu- 
lations in the process. In consequence, the raising of the 
margin of cultivation in European countries has been 
slight, while the rapid settlement of new countries has 
caused the better lands and natural resources there to 
command high rents. Thus the rent fund, like the inter- 
est fund, has increased enormously in the aggregate, not- 
withstanding the fact that the margin from which rents 
are calculated has risen somewhat. A last point concerns 
the deductions from the social income made because of the 
monopoly powers of certain entrepreneurs. There can be 
no question that a considerable share of the new wealth 
due to economic progress is enjoyed by those controlling 
the various forms of monopoly analyzed in earlier chap- 
ters. If these monopoly incomes could be diffused either 
by more general competition or by the legal regulation of 
prices, the earnings of workmen might be higher. 

A superficial consideration of the above tendencies might 
lead to the conclusion that the growth of population was 
the chief cause of the persistence of the low earning 
power of workmen. Undoubtedly, had population in- 



ECONOMIC JUSTIFICATION OF PROFITS 455 

creased less while capital increased at the same rate and 
new lands and natural resources were opened on the same 
scale, the economic position of the average man would have 
been much improved, but we are not justified in assuming 
any such possibility. As a matter of fact, the high rate 
of interest, which has been a chief influence in encouraging 
and making possible the remarkable increase in capital, 
has itself been maintained in the face of such increase, at 
least in part, because of the parallel growth of population. 
The growth of population has been, also, a principal in- 
centive to the discovery and exploitation of new lands and 
natural resources. It has thus stood in a causal relation 
both to the increase of capital and the settlement of new 
countries, and speculation as to whether a less rapid multi- 
plication would have been on the whole advantageous to the 
average man, is idle. 

Quite a different question is that as to whether such 
large deductions from the products of industry for the 
payment of competitive and monopoly profits, of rent and 
of interest are necessary or defensible. It is at this 
point that radical reformers take issue with conservative 
economists. In the last chapter we considered the most 
widely advocated plans for securing for the common bene- 
fit profits, rent and interest — labor copartnership, the 
single tax and socialism. We must now examine these 
shares in a more positive way, to determine in what rela- 
tion their payment stands to the motives and forces that 
cause economic progress. 

235. Economic Justification of Profits. — Generally 
speaking, competitive profits are fairly earned by those 
who receive them. They are the incentive which indus- 
trial society offers to entrepreneurs who will improve upon 
current methods of production. To secure them en- 
trepreneurs compete actively to lower their expenses of 
production so that they may undersell one another, and 
the whole community is benefited by the resulting reduc- 



456 ECONOMIC PROGRESS 

tions in the costs of production. At times, however, com- 
petitive profits are obtained in ways that injure rather 
than benefit society. Unscrupulous employers may take 
advantage of the ignorance or necessities of their work- 
men to depress their wages below the level which permits 
them to maintain their industrial efficiency. Cheap com- 
modities obtained by this means are all too dear if the best 
interests of producers and consumers alike be considered. 
Other entrepreneurs may undersell their competitors by 
adulterating their products. Still others may sell their 
goods for less than their production has actually cost, and 
by declaring themselves insolvent shift the resulting loss 
to their creditors. These and other forms of competition 
give rise to competitive profits for which industrial society 
receives no adequate return, and no effort should be spared 
to render them impossible. 

Even more important as sources of large incomes to par- 
ticular entrepreneurs are monopoly profits. These, too, 
are usually secured, at least at the outset, in consequence 
of improvements that have been made in the methods of 
production, but they must always be viewed with some 
suspicion, because they are likely to continue long after 
the improvements have been made and adequately paid for. 
If the monopolies which give rise to them are natural, that 
is, if they result from the fact that concentrated man- 
agement and operation are economical, sufficient monopoly 
profit to induce entrepreneurs to organize such industries 
on a large scale must be left to them if the benefits of 
monopoly are to be enjoyed. The government may 
properly interfere, however, in ways that have been dis- 
cussed in earlier chapters, to prevent excessive monopoly 
profits. If the monopolies are the result of legal privi- 
leges, control over their profits should be exercised as a 
matter of course by the government which grants such 
privileges. If they are due to obstacles to the free play 
pf competition, or to unfair forms of competition, the 



RENT AND INTEREST 457 

duty of the state to remove such obstacles and put a stop 
to such unfair practices is clear. Unless the government 
is zealous in the exercise of its control over monopolies, 
great inequalities in income are sure to result without any 
commensurate benefit to the whole community. 

236. Rent and Interest. — The payment of rent and in- 
terest for the use of pieces of land and capital goods is 
a natural consequence of the institution of private prop- 
erty in the factors of production. That this institution 
has played an important part in stimulating economic 
progress in the past can hardly be questioned. It has 
served as a constant incentive to the industry and thrift 
without which no advance could have been made. The 
principal economic motive of the average man is to provide 
for the comfort and happiness of his family. To accom- 
plish this object he is willing to work laboriously and to 
set aside a part of his surplus income as a provision for 
the time when he can work no more, or as a means to 
giving his children a better start in life than he has him- 
self enjoyed. But a necessary condition to the accumula- 
tion of wealth for future use is that the law shall protect 
individuals in the ownership and control over their prop- 
erty. Where such protection is lacking little wealth will 
be accumulated, and of that little a large part will neces- 
sarily be expended in safeguarding what is left. On the 
other hand, the more certain the legal protection afforded 
to property-owners the larger will their accumulations be- 
come and the more ample will be society's resulting equip- 
ment of capital goods. 

The payment of rent and interest has been explained 
as a transfer to property-owners of the shares of wealth 
which have been produced through the use of their prop- 
erty. Although conceding the accuracy of this explana- 
tion, critics may nevertheless object to the payment of 
rent to private landowners as unfair and unnecessary 
because the qualities in the land for which it is paid are 



458 ECONOMIC PROGRESS 

either natural or due to social changes for which land- 
owners deserve no credit. The economist's reply to this 
contention is that, while rent does frequently, if not usu- 
ally, arise from these causes, it is still true that private 
property in land is the surest means of encouraging the 
best use of land. To the extent that rents may be diverted 
to the service of the whole community, without gross in- 
justice to present landowners and without interference 
with the best uses of land, this reply loses its force and 
such diversion should be effected b} r means of taxes. As 
pointed out in the last chapter (Section 226), the time 
seems already ripe for this change as regards urban rents, 
but the new policy must in fairness to city landowners 
be introduced by gradual steps. 

The payment of interest is the incentive which industrial 
society offers to those who will save and invest their in- 
comes, just as wages are the premiums offered to those 
who will work. So long as men continue to be dominated 
by the motives which now control them, the one is as de- 
fensible, economically, as the other. It is not so much the 
payment of interest that gives rise to dissatisfaction with 
the institution of private property, as the unequal distri- 
bution of wealth that accompanies it. 

237. Inheritance Taxes as Means of Lessening In- 
equalities in Wealth. — An unequal distribution of wealth 
must result from the institution of private property so 
long as individuals and families differ greatly in earning 
capacity and in prudence and forethought. Where these 
inequalities are found some individuals and families will 
enjoy large incomes, and out of these incomes will set 
aside for investment large savings, while others will accu- 
mulate little or nothing. In some families wealth and the 
qualities necessary to its preservation will become heredi- 
tary, and great fortunes will be passed on from parents to 
children through several generations. More frequently, 
if we may judge from the experience of the United States 



INHERITANCE TAXES 459 

up to the present time, the wealth accumulated in one 
generation will be gradually dissipated, either through 
division among numerous heirs or because those who in- 
herit it lack either the capacity or inclination to keep it 
unimpaired. 

Undesirable as are inequalities in wealth, direct attempts 
to limit wealth accumulation would, in the author's opinion, 
be productive of more harm than good. A large and 
growing fund of capital is indispensable to the main- 
tenance of efficient methods of production and no meas- 
ures should be adopted that are likely to weaken seriously 
the motives to saving and investment. The reasons for 
putting no check on an individual's right to accumulate 
wealth do not apply, however, to his right to transmit it 
at death to his heirs. Even though hereditary fortunes 
may be dissipated after a few generations, it is neverthe- 
less true that much of the wealth in existence at any one 
time has been inherited by those who own it. Limitations 
on inheritances by means of inheritance taxes are, therefore, 
effective means of lessening inequalities in wealth among 
the individuals in each oncoming generation. 

Of all forms of taxation, inheritance taxes are believed 
to be the least objectionable. They are easily assessed and 
collected. They cannot be shifted, but must be paid out of 
the inheritances on which they are intended to fall. Fi- 
nally, they impose a minimum burden upon tax-payers, 
since after they are established they soon come to be 
thought of as reasonable charges imposed by the state for 
its services in protecting property and seeing that it 
passes into the possession of the legal heirs. For these 
reasons, as well as because they tend to lessen inequalities in 
wealth, large use should, in the opinion of the author, be 
made of these taxes is sources of revenue. The experi- 
ence of other countries indicates that the best results 
are secured when inheritance taxes are made progres- 
sive. Small inheritances should be exempt from the 



460 ECONOMIC PROGRESS 

tax. On larger inheritances the rate of taxation should 
increase by gradual steps until on large fortunes it 
becomes a substantial deduction, one-fifth or even one- 
quarter, from the inheritance. If the large revenues that 
may be derived from this source are used to advance the 
interests of the poor and thus to lessen inequalities in 
fortune at the other extreme, steady progress may be 
made toward a more democratic distribution of wealth and 
welfare. 

238. Progress in the Future. — The review of the cir- 
cumstances which have contributed to the economic prog- 
ress of the past that has been given indicates the condi- 
tions upon which the economic progress of the future must 
depend. Changes in wants and in habits of consump- 
tion calculated to increase the gratifications which men de- 
rive from goods and to lessen the costs involved in their 
production, must continue to be made; methods of pro- 
duction must be further perfected by improvements in the 
capital goods used, by a fuller utilization of the forces of 
nature, by an increase in the fund of capital, by a bet- 
ter organization of industry and by a steady improve- 
ment in the efficiency of the working population; the dis- 
tribution of the social income must be modified so that the 
command over economic goods enjoyed by the rank and file 
in the industrial army will be ever larger. 

Some of the reforms that will assist toward these ends 
may profitably be recalled. Isolated workmen often fail 
to secure the earnings to which they are economically en- 
titled because they do not bargain on terms of equality 
with their employers. Trade unions are the agencies that 
must be relied upon to correct these inequalities. So long 
as they do not try to become close monopolistic associa- 
tions, but confine their activities to securing the best terms 
possible for their freely admitted members, they merit all 
the encouragement and assistance that can be given them. 
Notwithstanding conspicuous exceptions, their general 



PROGRESS IN THE FUTURE 461 

tendency is toward improving the condition of wage- 
earners and rendering more harmonious and cordial the 
relations between them and their employers. 

For wage-earners among whom trade unions can be 
organized, state interference to prevent the making of 
socially disadvantageous labor contracts may not be neces- 
sary. In the case of great industrial classes, however, 
nothing but an aggressive policy of interference to estab- 
lish the plane of competition can serve to protect work- 
men from unduly long hours under unsanitary conditions. 
The codes of labor law already adopted must be extended 
and perfected, and in time may have to embrace even pre- 
scriptions in regard to the minimum rates of pay that will 
be tolerated in certain employments. Side by side with 
this policy of regulation must be developed agencies for 
caring adequately for the unemployable and for protect- 
ing from their deadly competition the individuals and 
families that are capable, under proper conditions, of inde- 
pendent self-support. 

In certain industries free competition has proved itself 
incapable of regulating economic relations as the general 
interest requires. Some industries are monopolies by their 
very nature, others have become monopolies because of de- 
fects in the legal system. In relation to such industries the 
function of the state is clear. Natural monopolies should 
be controlled as regards the charges they are allowed to 
make for the services they render, and sometimes as regards 
also the quality of these services. When this control can 
only be exercised effectively through the expedient of gov- 
ernment ownership and operation, the latter should be fear- 
lessly undertaken. Only by such means can the interests of 
the public be safeguarded and injustice prevented. Mo- 
nopolies that have arisen because of defective laws or pub- 
lic policies should be attacked through such laws. It 
is the duty of the state, so long as it continues to permit 
free competition, to enforce fair competition, and appro- 



462 ECONOMIC PROGRESS 

priate measures to this end must be devised and put into 
execution. 

The same reasons that make factory regulations neces- 
sary to the health and safety of factory employees make 
necessary the effective regulation of housing conditions in 
great cities. The ignorant and careless who submit to 
insanitary workrooms will submit as readily to insanitary 
homes unless the state or city interferes to enforce minimum 
standards of cleanliness and decency. 

Even more important than increased attention to public 
health is increased attention to public education. For 
reasons that have been given, parents cannot be depended 
upon to demand as high standards of education for their 
children as it is to the general interest that children should 
enjoy. The state must interfere to provide adequate 
schools and to compel attendance at such schools, or others 
of similar grade, and its expenditures for this purpose, 
so long as they are calculated to improve the educational 
advantages offered, can hardly err on the side of excess. 
In the United States the greatest need at the present time 
is for trade and technical schools to supplement the gen- 
eral training of the public schools and equally free to all 
classes. 

Space has not permitted consideration of the subject of 
taxation, but reasons have been given for the belief that 
the protective tariff of the United States has outlived its 
usefulness and the increased taxation of land in cities and 
of inheritances has been advocated. Reform in the meth- 
ods of taxation is all the more important because the 
economic progress of the future is certain to involve a 
large increase in public expenditures. Public revenues 
must be secured through taxes which fall as little as pos- 
sible on the poor, if the benefits derived from public ex- 
penditures are not to be largely offset by the curtailed in- 
comes of those whose earnings are already all too small. 

The above are some of the reforms which the author 



PROGRESS IN THE FUTURE 463 

would urge as substitutes for the more radical changes 
proposed by advocates of land nationalization and social- 
ism. They belong distinctly to the present and the imme- 
diate future and need not be deferred to a future so remote 
that present discussion of them is of doubtful value. If 
economic progress is to follow from these changes, they 
must result in steady improvement in the standards of 
living and of efficiency of the wage-earners in each com- 
munity. For, at last analysis, every effort to improve con- 
ditions which is not registered in the character and ca- 
pacity of the average individual must prove futile. Un- 
less he responds to the enlarged opportunities that are 
presented to him, there is no hope of permanent better- 
ment. That he will respond, and that rising standards of 
living will exercise the needed control over the growth of 
population, so that improvement in the quality of life will 
be as conspicuous a characteristic of the future as has 
been growth in wealth and numbers of the recent past, 
are beliefs shared by the majority of economists. 

239. Probable Course of Wages, Interest and Rent in 
the Future. — The trend of wage and interest rates and of 
rent in future years cannot safely be predicted from their 
trend in the past. All that can be said is that if present 
tendencies continue to operate, certain results will follow. 
If the progress in production that may be confidently pre- 
dicted continues to be accompanied by a gradual rise in the 
standards of living of the working classes, there must be a 
steady increase in wages. One effect of such an increase 
will be a larger and larger accumulation of capital on the 
part of wage-earners themselves and this, added to the capi- 
tal accumulated by other classes, will have a tendency to re- 
duce the rate of interest. There is little reason, however, 
for expecting anything more than a very gradual fall in 
interest, or that the rate will be lowered to nothing within 
many decades or even centuries. Opposed to such a result 
are the discoveries of ever new uses for capital goods that 



464 ECONOMIC PROGRESS 

are certain to be made, and the lessened rate of accumula- 
tion on the part of capitalists that may be expected a£ 
their incomes from capital, in consequence of the decline 
in interest itself, become smaller and smaller. The future 
course of rent will depend upon the relation between the 
growth of population and the progress that is made in util- 
izing to better advantage the world's natural resources. 
The aggregate rent fund is certain to increase as it has 
in the past, as the area of the earth's surface turned to 
economic account increases. This may not, however, in- 
volve any lowering in the margin of cultivation any more 
than has the progress of the last one hundred years. 

To predict whether the above changes, which may be 
said to be in progress at the present time, will continue 
uninterruptedly is beyond the power of economic science. 
As in the past, so in the future, new conditions and new 
forces are likely to present themselves, which will cause 
the anticipations of present-day economists to seem as base- 
less as many of those of the economists of the past have 
already been proven to have been. 

240. Economic Progress and the Moral Elevation of 
the Race. — The impression almost necessarily left upon 
the mind by a treatise on economics is of a somewhat hard 
and material view of life. In concentrating attention upon 
goods and the gratifications which result from them, the 
economist seems to ignore religion, the family affections 
and other things that are really more important. Excuses 
that may be urged in his behalf readily suggest themselves. 
He may not justly be accused of ignoring religion and 
the family affections because he has little to say of them. 
Like other specialists, he must confine himself rigidly to 
his particular subject if he is to contribute anything of 
value to the sum of human knowledge. But the charge 
is not so easily answered. Economists profess to con- 
cern themselves with the conditions upon which human 
well-being depends. They talk of gratifications, of pleas- 



CONCLUSION 465 

ures and pains, of progress. Can they have anything 
final to say on these subjects when they pass over the very 
experiences which, in the opinion of so many persons, 
make life most worth living? It must freely be confessed 
that they cannot. Basing their conclusions on a study of 
the economic side of life, they can claim finality for them 
only as respects economic relations. The gratifications 
they discuss are gratifications connected with goods or 
with the activities necessary to the production of goods. 
Whether an increase in these gratifications really con- 
tributes to the moral elevation of the race is a problem 
that can be decided only by reference to broader con- 
siderations than fall properly within the field of economics. 
An economist may, nevertheless, be pardoned a closing 
word touching this vital matter. 

Economic progress is something more than a progres- 
sive advance towards a state of society in which all indi- 
viduals will be abundantly supplied with goods. It in- 
cludes in its view activities as well as the gratifications 
connected with consumption. Economically speaking, it is 
quite as important to get rid of the pains of production as 
to add to the pleasures of consumption. The economist's 
ideal is thus a world in which wants and the activities of 
production are so harmoniously adjusted to each other that 
the field of industry offers full scope to all for the exer- 
cise of those faculties and capacities from which they get 
the greatest benefit and happiness, at the same time that 
it rewards all with the goods which they most require. Up 
to the present time progress has been mainly in the direc- 
tion of adding to goods. It is necessary to raise con- 
sumption to a certain standard before it can be appre- 
ciated that additional comforts and luxuries are dearly 
bought at the price of uncongenial toil, and before due 
attention can be attracted to the other line of development. 
When this standard is reached, however, the choice of oc- 
cupations will begin to be made with greater reference 



4,66 ECONOMIC PROGRESS 

to the tastes of individuals as producers, and with less 
regard to their need for goods as consumers. Progress 
from this point forward will be toward more and more 
congenial work for all rather than toward a further multi- 
plication of goods. If contemporary economic discussions 
seem to over-emphasize the importance of goods or wealth 
and to give too little heed to worthy and ennobling activi- 
ties, it is not because this is an essential characteristic of 
economics, but because it is still true that the mass of men 
are all too poorly supplied with goods, and that for them 
the problem of most pressing concern is how this deficiency 
may be relieved. For the middle and upper classes in the 
economic scale deficiency of goods has already ceased to 
be a ground for anxiety. The real economic evil for them 
is deficiency in congenial pursuits, and the economist may 
unite with the moralist in urging, in their case, less con- 
cern about material comforts and more concern about the 
way in which the working life is to be spent. 

Economic progress is by no means the end of life, but, 
conceived in a broad way, it is fundamental to all progress. 
A certain control over material goods is essential to appre- 
ciation of all higher goods. Given control over the neces- 
saries and comforts indispensable to well-rounded existence, 
the next step is to find work which will afford scope for 
one's highest faculties. This quest, which is purely eco- 
nomic, affords opportunity for the best and highest de- 
velopment of which human beings are capable. For per- 
sons with artistic imagination and the creative faculty 
it will mean the choice of artistic professions or crafts ; 
for those with scientific curiosity and the love of study it 
will mean the selection of scientific pursuits; finally, for 
the great mass of men, who are now, and probably will 
continue to be, neither artists nor scientists by nature, it 
will mean the choice of those occupations which will enable 
them to minister most largely to the wants of others and in 
this way to gratify most fully their social aspirations. 



CONCLUSION 467 

For, if men are now self-seeking in a narrow sense, it is 
because the hard struggle for existence to which they have 
owed their development in the past has made them so. As 
goods become more plentiful, the larger social self, which 
already directs the lives of so many so-called unselfish 
persons, will become dominant. Its gratification will de- 
mand a constant ministering to the wants of others, just 
as the gratification of the narrower self of the average 
man now demands constant attention to personal wants 
and the wants of the family. Thus, if the study of eco- 
nomics seems to involve a hard and material view of life, 
it is because we still live in a hard and material age. The 
economist's ideal is not only not inconsistent with the 
moral elevation of the race, but it includes that elevation 
as one of its necessary elements. It is his confident expec- 
tation that men will grow better as the conditions of their 
economic life become pleasanter and his belief that they can 
grow better in no other way is what gives its chief interest 
to his subject. 



INDEX 



Abraham, M. E., 350 

Abstinence, part played by, in 
connection with capitalistic pro- 
duction, 79 

Adams, H. C, 19; T. S., 329 

American Federation of Labor, 
the membership of the, 308 

American Sugar Refining Com- 
pany, formation of the, 397 

Anthracite Coal Combination, the, 
359 ff 

Anti-Trust Acts, 415 if 

Arbitration, through private 
agreement, 317; through pub- 
lic boards, 317 f; compulsory, 
318 ff ; as a remedy for evils of 
sweating system in New Zea- 
land, 342 

Association of Officials of Bu- 
reaus of Labor in U. S., 349 

Atwater, W. O., 29 f, 37 

Backhouse, Judge, 329 

Banking System, history of the 
National, in U. S., 260 ff; 
defects in the National, and 
remedies, 262 ff 

Bank-notes, how issued in U. S., 
260 f ; functions of, 263 f ; how 
issued in France and Germany, 
265; conclusion concerning, in 
U. S., 262 f 

Banks, functions of, 246 fF; loans 
and deposits of, 250 ff; how, 
lend their credit, 252 ff; Na- 
tional, in U. S., regulations ap- 
plying to, 260 ff; importance of 
services of, 266 f 

Bargaining, collective, arguments 
for and against, 311 ff 

Bastable, C. F., 19, 304 

Bellamy, E., socialism of, 443, 
450 

Bemis, E. W., 373 



Berglund, A., 422 

Bimetallism, international, 283 f ; 

in U. S., 284 
Birth-rates, 206 
Black, Miss C, 350 
Bohm-Bawerk, E. von, 19, 59, 90, 

202, 222, 450 
Bolles, A. S., 267 
Bonar, J., 18, 19 
Boulton, M., 355 
Bowker, R. R., 19 
Boycott, definition of, 316 
Broadhead, H., 329 
Brooks, J. G., 329 
Biicher, K., 19 
Budgets, family, statistics of, 

31 f, 37 
Bullock, C. J., 19, 37, 59, 72, 90, 

109, 136, 150, 183, 222 
Burrows, 350 
Buyers, calculations of, 52 

Cannan, E., 18, 19 

Capital, definition of, goods, 13; 
different kinds of, 80 ff; 
methods of accumulating, de- 
scribed, 83 ff; different varie- 
ties of, goods, 86 ff; impor- 
tance of, in the past and to- 
day, 88 f; statistics showing 
growth of, 215 f; influences 
controlling growth of, 216 ff 

Carver, T. N., 59, 90, 122, 136, 
164, 183, 201 

Checks, the functions of, 248 ff 

Clare, G., 287 

Clark, J. B., 18, 19, 59, 90, 122, 
183, 201, 222; V. S., 329, 
422 

Clearing-house, the function of, 
249 

Coinage, description of, 228 f 

Combination, Anthracite Coal, in 
U. S., 359 ff 



469 



470 



INDEX 



Commons, J. R., 329 

Communism, definition of, 441 

Competition, influence of, on 
prices, 55 if; reasons for as- 
suming free, 119 f ; influence of, 
on interest rates, 189 f 

Conant, C. A., 267 

Conrad, J., 18 

Consumption, definition of, 9; 
economical, 29 f; statistics of, 
35 f; two aspects of, 36 f; 
progress in, 452 f 

Co-operation, kinds of, 91 ff; 
qualities necessary to effective, 
93 f; the advantages of, 94 f ; 
the disadvantages of, 95; illus- 
trations of advantages of, 95 f ; 
and labor copartnership dis- 
tinguished, 98 

Copartnership, labor, and co- 
operation distinguished, 98 ; 
progress of, in Great Britain, 
426; difficulties in way of suc- 
cess of, 428 ff 

Copyright, law of, in U. S., 357 f 

Corporations, description of, 100; 
advantages and disadvantages 
of, 100 ff 

Cossa, L., 19 

Cost, law of least social, 26 ff; 
marginal, and value, 46 ff 

Cost of production, definition of, 
10 

Courts, American, conflicting de- 
cisions of, in labor cases, 332 
ff 

Credit, definition of, 245 f ; book, 
246; bank, 246 ff 

Cultivation, intensive and ex- 
tensive, 69 f 

Darwin, L., 373 

Dawson, W. H., 450 

Death-rates, 206 

Demand, law of, 23 ff ; elasticity 
of, 23 f 

Dewey, D. R., 244 

Diminishing returns, law of, ap- 
plying to land, 67 ff ; to labor 
and capital, 81 ff 

Diminishing utility, law of, 21 ff 

Dingley Act (see Tariff, of 1897) 

Discrimination, by railroads, 



among commodities, 378 ff; 
among persons, 380 ff 

Distribution, definition of, 13; 
the nature of, 110 ff; restate- 
ment of theory of, 202 f ; cau- 
tion against unwarranted in- 
ferences from the theory of, 
203 ff; ultimate determinants 
of, 220 ff; progress in, 453 ff 

Disutility, relation to value of 
marginal, 41 f 

Division of Labor (see Labor) 

Dixon, F. H., 394 

Drage, G., 329 

Ducpetiaux, 35 

Dunbar, C. F., 19, 244, 267 

Duties, ad valorem and specific, 
definition of, 294; level of, in 
U. S. tariff of 1897, 297 f; 
retaliatory, 303 

Economic man, characteristics of, 
4 f; part played by, in pro- 
duction, 61 f; qualities deter- 
mining efficiency of, 73 ff 

Economics, definition of, 1 

Edgeworth, F. Y., 19 

Education, importance of, in de- 
termining wage-earning capac- 
ity, 178 ff; inequalities in op- 
portunities for, must be re- 
moved by community action, 
180 ff 

Eight-hour day, Utah's law, 333; 
Colorado's law, 333; question 
of a universal legal, 337 ff 

Electric light, business of sup- 
plying, a monopoly, 362 ff 

Ely, R. T., 18, 19, 37, 150, 329, 
373 

Engel, F., 35 

England, origin of Bank of, 247 

Entrepreneur, function of the, 
11, 97; qualities needed by the, 
98; single, form of organiza- 
tion, 99 

Evolution, relation of, to char- 
acteristics of the modern man, 
5 

Exchange, foreign, definition of, 
268 f; sterling, and the gold 
points, 269 ff ; rate of sterling, 
270 ff; three-cornered, 272 f 



INDEX 



471 



Expenditures, luxurious, 31 ff; 
of families with different in- 
comes, 35 f 

Expenses of production, defini- 
tion of, 11; differences in, due 
to differences in land, 65 ff; 
analysis of the, 114 ff; the 
normal, denned, 118 ff 

Express business, arguments for 
government operation of the, 
389 f 

Fawcett, H., 304 

Fay, C. R., 450 

Fetter, F. A., 37, 59, 122, 136, 
150, 183, 222 

Firm, the representative, 108 f ; 
the representative as marginal 
seller, 118 ff 

Fund, replacement (see Replace- 
ment fund) 

"Futures," dealings in wheat, 
125 ff 

Gas business, a monopoly, 362 ff 

George, H., argument of, for the 
single tax, 434 f ; 450 

Gide, C, 18 

Gilman, N. P., 329, 450 

Gold, reasons for preference for, 
to serve as standard money, 226 
ff; adoption of the, standard, 
232 ff; how other kinds of 
money are kept at a parity 
with, in U. S. to-day, 237 ff; 
the, points for sterling ex- 
change, 269 ff ; a country's sup- 
ply of, regulates itself, 273 
ff; the value of, and prices, 
275 ff ; the demand for, 276 ff ; 
the supply of, 278 ff; changes 
in value of, how measured, 
279 ff; changes in value of, 
281 ff; future of the, standard, 
285 f 

Goods, economic and free, defini- 
tions of, 5 f; present vs. fu- 
ture, 22 f 

Goschen, G. J. G., 287 

Grades of workmen in U. S., 
166 

Greeley, H., views on protection 
of, 296 



Greenbacks, history of, 235 ff 
Gresham's Law, explanation of, 
230 ff 

Hadley, A. T., 19, 201, 244, 267, 

394 
Harmony, law of, 25 f 
Harrison, A., 350 
Heilman, R. E., 373 
Heredity, influence of, on wages, 

176 f 
History, relation of, to economics, 

2 
Hobson, J. A., 19 
Howe, F. C, 373 
Howell, G., 329 
Hutchins, B. L., 350 

lies, G., 19 

Immobility of labor, definition 
of, 173 

Income, uses of, compared, 31 ff ; 
money and real, defined, 111 f ; 
money, and prices, 112 ff; 
shares into which money, is 
divided, 121 f 

India, monetary system of, 234 

Ingram, J. K., 18 

Inheritances, taxes on, advocated, 
458 ff 

Injunction, use of the, in con- 
nection with strikes, 320 ff; 
remedies for evils connected 
with the, 322 f 

Insurance, premiums, an expense 
of production, 114; companies, 
incomes of, in U. S., 218 

Interest, an expense of produc- 
tion, 114 f; on capital per- 
manently embodied in land and 
rent, 161 f; definition of, 184; 
what the, problem involves, 184 
f; explanation of reasons for 
payment of, 185 ff ; competition 
tends to bring, rates to a level, 
189 f; reasons for persistence 
of differences in rates of, 190 
ff; other causes of differences 
in rates of, 193 f; relation be- 
tween marginal, and other 
shares, 194 f; how marginal, is 
determined, 197 ff; on bank 
loans, 255 ff; reasons for dif- 



472 



INDEX 



ferences in rates of, on bank 
loans, 257 ff; economic justifi- 
cation of, 457 f; probable fu- 
ture course of, 463 f 

Interstate Commerce Act, pro- 
visions of the, 384 f; amend- 
ments to the, 387 ff 

Interstate Commerce Commission, 
Reports of the, quoted, 375, 
381, 383; reasons for its failure 
to control rates prior to 1906, 
385 ff 

Jacobstein, M., 422 

Jenks, J. W., 19, 422 

Jevons, W. S., 19 

Johnson, A. S., 164; E. R., 394; 

J. F., 244, 287 
Jones, B., 450 

Keynes, J. N., 18 
Kirkup, T., 450 
Kinley, D., 244 
Knox, J. J., 267 

Labor as a factor in production, 
73 ff; the division of, 91 ff; 
advantages of the division of, 
94 f ; Report of U. S. Bureau 
of, 97; influence of immobility 
of, on wages, 171 ff; reasons 
for legal regulation of, 330 ff; 
constitutionality of, laws in U. 
S., 332 ff; child, laws in U. S., 
334 ff; laws regulating, of wo- 
men, 336 f; regulation of, in 
dangerous trades, 343 f; con- 
clusion as to need for, laws, 
347 ff 

Labor Copartnership (see Co- 
partnership) 

Labor movement, nature of the, 
307 f 

Labor unions (see Unions) 

Laborer, qualities necessary to 
the efficiency of the individual, 
73 ff 

Laborers, disadvantages of, in 
bargaining, 305 ff 

Laissez-faire policy in Great 
Britain, 332 

Land, analysis of productive ser* 



vices of, 62 f; different char- 
acteristics of different pieces 
of, 63 ff; differences between 
different pieces of, due to so- 
cial causes, 70 ff; different 
grades of, 152 ff; nationaliza- 
tion, discussion of, 431 f ; pri- 
vate property in, 432 f ; desir- 
able reforms in, system in U. 
S., 437 ff 

Latin Union, monetary policy 
of the, 233 

Laughlin, J. L., 244, 287 

Law, relation of, to economics, 2; 
of diminishing utility, 21 ff; 
of demand, 23 ff; of variety, 
24 f; of harmony, 25 f; of 
least social cost, 26 ff; of di- 
minishing returns from land, 67 
ff ; of diminishing returns from 
labor and capital, 81 ff; of 
competitive distribution, 200 ; 
Gresham's, 230 ff 

Laws, economic, definition of, 15 f 

Le Rossignol, J. E., 373 

Leslie, J. E.^C, 18 

Levasseur, E., 329 

Lewes, G. H., 394 

Liability, employers', in New 
York, 344 f ; substitute for, in 
Great Britain, 345 f; in Ger- 
many, 346 f 

Loans, call and time, distinguish- 
ed, 252; interest on bank, 255 
ff; reasons for differences in 
rates of interest on, 257 ff 

Lockouts, evils connected with, 
314 ff 

Luxuries, definition of, 31; ex- 
penditures for, criticized, 31 ff 

Malthus, T. R., 18 

Man (see Economic Man) 

Margin of cultivation, intensive 

and extensive, contrasted, 69 f 
Marot, H., 350 
Marriage rates, 206 
Marshall, A., 18, 19, 37, 59, 64, 

72, 90, 109, 122, 136, 150, 164, 

183, 201, 222 
Marx, K., the socialism of, 447 f ; 

450 
Mayo-Smith, R., 37, 206, 222 



INDEX 



473 



Meade, E. S., 422 

Menger, A., 450; C, 19 

Meyer, B. H., 394 

Methods of economics, descrip- 
tion of, 14 ff 

Mill, J. S., 18, 164 

Mines, causes determining the 
rent of, 157 f 

Mitchell, J., 329 

Money, nature and function of, 
223 ff; prices and the value 
of, vary inversely, 225 f ; quali- 
ties of good, 226 ff; coinage 
and the printing of paper, 228 
ff; standard, token and credit, 
distinguished, 229 f ; Gresham's 
Law concerning, 230 ff; of the 
U. S. to-day, 236 ff ; silver, ex- 
cessive issue of, in U. S., 239 
ff; token, principles concern- 
ing issue of, 240 f; credit, in 
U. S., 242 ff; the value of 
gold, and prices, 275 f; the 
demand for, 276 ff ; the supply 
of gold, 278 f; how the value 
of, is measured, 279 ff ; changes 
in the value of, 281 ff 

Monopolies, a classification of, 
138 ff; current misapprehen- 
sions in regard to, 148 f ; pub- 
Lie legal, 352 f ; based on pat- 
ents, 353 ff; natural, in U. S., 
358 f; natural, of situation, 
359; natural, of organization, 
362 ff; methods of regulating 
municipal, 371 ff; national, of 
organization, 374 f; capital- 
istic, in U. S., 395 ff 

Monopoly, definition of, 137; 
contrasted with differential ad- 
vantages in production, 137 f ; 
limitations on, 140 ff; law of, 
price, 143 ff ; methods of con- 
cealing, profits, 145 ff; influ- 
ence of, profits on other shares, 
149 f; importance of the, prob- 
lem, 351 f; solution of the 
municipal, problem, 368 ff; 
profits of railroads, 383 f 

Montague, G. H., 422 

Moody, J., 422 

Moore, L. B., 37 

Motives, economic, 2 ff 



Muhleman, M. L., 267 
Murphy, E. G., 350 

National banks (see Banking 
System of U. S.) 

Nature, a factor in production, 
61 ff; man's mastery over, in- 
creasing, 132 f 

Necessaries, economic, definition 
of, 31 

Nicholson, J. S., 19, 72, 109, 164 

North, S. D., 349 

Noyes, A. D., 244 

Organization, business, impor- 
tance of, 97; different forms 
of, 99 f ; natural monopolies of, 
362 ff; national monopolies of, 
374 f 

Palgrave, I., 18 

Partnership, description of, 99 f 

Patents, number granted in U. 
S., 139; system of, of U. S., 
353 ff; reform of system of, 
in U. S., 355 f; profits from, 
356 f 

Patten, S. N., 19, 37, 304 

Physiocrats, the views of the, on 
production, 60 

Pierson, N. G., 59, 90, 136, 164, 
183, 201, 244, 287 

Pin-making, description of, in 
1776 and to-day, 96 

Plener, E. von, 350 

Political Economy, definition of, 
1 

Politics, the relation of, to eco- 
nomics, 2 

Pooling, railway, definition of, 
376 f; prohibition of, 376 f 

Population, growth of, in nine- 
teenth century, 205 f; sources 
of growth of, 206 f; theories 
of, 207 ff; economic check to 
growth of, 209 f; influence of 
standards of living on growth 
of, 210 ff; of France, station- 
ary, 212 

Price, definition of, 8; law of 
monopoly, 143 ff; of land, its 
relation to rent, 162 f 



474 



INDEX 



Price, L. L., 18 

Prices, gold, in U. S., 8; values 
and, 48 if; the determination 
of, 51 ff; competitive, 55 ff; 
market and normal, 58 f ; and 
money income, 112 ff; steadied 
by speculation, 125 if; limita- 
tions on monopolistic control 
over, 140 if; how changes in 
general level of, are measured, 
279 f ; changes in the level of, 
281 if 

Production, definition of, 8; cost 
of, definition of, 10; expenses 
of, definition of, 11; analysis 
of nature of, 60; capitalistic, 
described, 78 if; advantages of 
large-scale, 105 if ; progress in, 
453 

Profits, competitive, the causes 
of, 123; due to price fluctua- 
tions of particular commodities, 
124 ff; due to general price 
movements, 127 ff; due to 
novelties, 129 f; due to im- 
provements in methods of pro- 
duction, 130 if; due to varia- 
tions in climatic and other 
natural conditions, 132 if; due 
to the exploitation of new 
lands and natural resources, 
133 f ; due to modifications in 
rates of remuneration of other 
factors, 134 f ; summary of ex- 
planation of competitive, 135 f ; 
monopoly, 137 if; methods of 
concealing monopoly, 145 ff; 
influence of monopoly, on other 
shares, 149 f; monopoly, of 
railroads in U. S., 383 f; eco- 
nomic justification of, 455 

Profit-sharing, 423 if 

Progress, definition of economic, 

451 f; indications of, 452; in 
consumption and production, 

452 f ; in distribution, 453 if; in 
the future, 460 ff; economic, 
and the moral elevation of the 
race, 464 ff 

Protection, policy of, described, 
290 f; arguments for, 291 if; 
in U. S. since the Civil War, 
294 ff; afforded by tariff of 



1897, 297 ff; present status of 
question of, in U. S., 299 ff; 
future of policy of, in U. S., 
301 ff 
Public ownership, arguments for, 
of municipal monopolies, 369 ff 

Rae, J., 18, 19, 450 

Railroads, circumstances making, 
monopolistic, 375; progress to- 
ward concentration of, in U. 
S., 375 if; kinds of discrimina- 
tion practised by the, in U. S., 
378 ff ; monopoly profits of, in 
U. S., 383 f; arguments for 
government ownership and op- 
eration of, in U. S., 390 if; 
future of regulation of, in U. 
S., 392 ff 

Ratio, mint, definition of, 231; 
commercial, 231 

Reeves, W. P., 329 

Reform, plans of economic, 423 
ff 

Rent, an item in the expenses 
of production, 115; definition 
of, 151 ; causes determining the 
amount of, 154 ff; the, of 
mines and sources of water 
power, 157 f ; complications in 
connection with explanation of, 
158 if; and interest on capi- 
tal permanently embodied in 
land, 161 f; relation between, 
and the price of land, 162 f ; 
summary of the explanation of, 
163 f; discussion of economic 
justification of, 457; probable 
future course of, 463 f 

Replacement fund, definition of 
the, 111; the, an item in ex- 
penses of production, 114; 
service of the, in giving mo- 
bility to capital goods, 187 
ff 

Reserve, the U. S. gold, 239 

Ricardo, D., 18 

Ripley, W. Z., 394, 422 

Rochdale co-operative store, de- 
scription of, 427 

Rousiers, P. de, 329 

Rowntree, B. S., 37 

Russell, H. B., 287 



INDEX 



475 



Saving, economic consequences 
of, 34 f; part played by, in 
connection with capitalistic pro- 
duction, 79; motives opposed 
to, 217 f ; motives for, 218 f 

Say, L., 18 

Schaffle, A., 450 

Schloss, D., 450 

Schmoller, G., 19 

Schoenhof, H. J., 183 

Scott, W. A., 244 

Seligman, E. R. A., 18, 19, 59, 
72, 90, 109, 136, 164, 183, 201, 
267 

Sellers, calculations of, 53 

Shearman, J. G., 450 

Silver dollars, plans for dispos- 
ing of surplus, in U. S., 242 ff 

Single tax (see Tax, single) 

Situation, importance of, to land, 
70 ff 

Smart, W., 19, 59 

Smith, A., 18; views on produc- 
tion of, 60, 183 

Socialism, the meaning of, 441 f ; 
advantages claimed for, 442 f ; 
objections to, 443 ff; of Karl 
Marx criticized, 447 ff; con- 
clusions in regard to, 449 f 

Sociology, its relation to eco- 
nomics, 1 f 

Spargo, J., 450 

Speculation, the economic func- 
tion of, 125 ff 

Spiers, F. W., 373 

Standard, gold, in U. S., 8; 
adoption of the, in different 
countries, 232 ff; maintenance 
of, in U. S., 237 ff; future of 
the gold, 285 f; the multiple, 
286 f 

Standard of living, definition of, 
177 f; influence of the, on 
wages, 178 ff; influence of the, 
on growth of population, 210 ff 

Standard Oil Company, presents 
some characteristics of natural 
monopoly, 362; formation of 
the, 396 f 

Stanwood, E., 304 

Statistics, definition of, 15; of 
consumption, 35 f; of popula- 
tion, 206; of wealth and capi- 



tal, 215; of gold supply, 279; 

of prices, 282 f 
Stickney, A. B., 394 
Stimson, F. J., 349 
Stock-watering, to conceal prof- 
its, 147 
Street railways, monopolies of 

organization, 364 ff 
Strike, Anthracite Coal, 315 f; 

Report of Anthracite Coal, 

Commission, 424 
Strikes, evils connected with, 314 

ff; plans for avoiding, 316 ff 
Sugar Trust (see American 

Sugar Refining Co.) ) 
Sumner, Miss H. L., 329; W. G., 

19, 304 
Sweating system, evils of the, 

339 ff; remedies for the, 341 ff 

Taff Vale case, decision in, 308 f 

Tarbell, Miss I. M., 422 

Tariff, the, question, 290 f; of 
1897 in U. S., 297 ff; law, 
drafting of a, in U. S., 299; 
present status of the, question 
in U. S., 299 ff; future, policy 
of U. S., 301 ff; the, and the 
trusts, 408 f 

Taussig, F. W., 19, 183, 287, 304 

Tax, the single, 434 ff; objec- 
tions to the single, 435 ff; on 
inheritances advocated, 458 ff 

Taxes, an item in the expenses of 
production, 115 

Telegraph business, arguments 
for government operation of 
the, 389 f 

Telephone business, monopolis- 
tic characteristics of the, 366 
ff; arguments for government 
operation of the, 389 f 

Thompson, H. M., 183; R. E.,304 

Toynbee, A., 18 

Trade, foreign and domestic, con- 
trasted, 288 ff; advantages of 
free, 290 f 

Trade marks, in U. S., 357 

Trade unions (see Unions, labor) 

Trades, dangerous, the regula- 
tion of, in Great Britain, 343 f 

Trust, reasons for, movement, 
398 ; economies effected through, 



476 



INDEX 



form of organization, 402 ff; 
legislation, 415 ff 
Trusts, definition of, 395; the 
early, in U. S., 396 f ; progress 
of, in U. S., 397 ff; over- 
capitalization of the, 400 f; 
financial success of the, 401 f ; 
illegitimate advantages of the, 
405 ff; the tariff and the, 
408 f; other evils charged 
against the, 409 ff; constitu- 
tional obstacle to regulation of 
the, 413 ff; plans for obtain- 
ing control over the, 417 ff; fu- 
ture of the, 420 ff 

Unions, development of law con- 
cerning labor, in Great Britain, 
308 f; law concerning labor, 
in U. S., 309 ff; influence of 
labor, on wages, 323 ff ; labor, 
sometimes monopolies, 325 f; 
educational work of labor, 326 
f ; the regulation of labor, 327 
ff 

United States, monetary history 
of the, 234 ff ; present monetary 
system of the, 236 ff ; defects in 
monetary system of the, 239 ff 

United States Steel Corporation, 
presents some characteristics of 
a natural monopoly, 362; cap- 
italization of the, 398 

Utility, definition of, 5 f; mar- 
ginal, and value in use, 40; and 
value in industrial society, 44 ff 

Value, in use, definition of, 5; 
in exchange, definition of, 5; 
relation between utility and, in 
use, 6; relation between, in use 
and, in exchange, 7 f; in use, 
how determined, 38; law of, in 
use, 40; and costs, 41 f; law 
of, in industrial society, 42 ff ; 
and price, 48 ff ; the, of money, 
50 f 

Variety, law of, 24 f 

Wages, what the theory of, in- 
volves, 12; real, definition of, 
12; now determined by free 



competition, 12 f; an item in 
expenses of production, 115; 
the, question defined, 165 f; 
differences in, explained like 
rents, 166 ff; explanation of 
differences in rates of, gen- 
eralized, 170 f; influence of 
immobility of labor on, 171 ff ; 
competition equalizes efficiency 
not time, 173; other causes of 
differences in money, 174 ff; 
influence of heredity and edu- 
cation on, 176 f; influence of 
standards of living on, 177 ff; 
relation between, and other 
shares, 182 f; how marginal, 
are determined, 197 ff; fixed 
by wage-boards in Australia, 
341 ; probable future course of, 
463 

Wages of management, an item 
in expenses of production, 115; 
analysis of the, 116 ff 

Waiting, necessary to capitalistic 
production, 79 

Walker, F. A., 19, 72, 287 

Wallace, W., 450 

Walsh, C. M., 287 

Wants, characteristics of, 21 f 

Water, power, causes determin- 
ing the rent of sources of, 
157 f; business of supplying, 
a monopoly, 362 ff 

Watt, J., 355 

Webb, B., 329, 350; S., 329 

Wells, H. G., 450 

White, H„ 244 

Whittlesey, S. D., 349 

Wicker, C. M., explanation of 
discriminating railway rates by, 
381 f 

Wieser, F. von, 19 

Willoughby, W. F., 350 

Workers, qualities determining 
the productive efficiency of, 73 
ff; in U. S. classified, 166 ff; 
complications in grading, in U. 
S., 168 ff; disadvantages of, 
in bargaining over wages, 305 
ff 

Workmen's Compensation Act in 
Great Britain, 345 f 



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By Winthrop More Daniels, Professor of Political Econ- 
omy in Princeton University. 373 pp. 12mo. $1.50. 

F. Spencer Baldwin, Professor in Boston University :— It is a piece of 
work well done both from a scientific and a literary point of view— a text-book 
with a style. . . . The lucid explanation of the financial system of the 
United States makes the book particularly valuable for the American student. 

SCOTT'S MONEY AND BANKING 

By W. A. Scott, Professor in the University of Wisconsin. 
381 pp. 8vo. $2.00. 

H. E. Mills, Professor in Vassar College :— It is clear, comprehensive, and 
conservative. All in all, it seems to me the best single book to use in connec- 
tion with a course on Money and Banking. 

SEAGER'S INTRODUCTION TO ECONOMICS 

By Henry R. Seager, Professor in Columbia University. 
Third Edition, Revised and Enlarged. 604 pp. 8vo. $2.25. 

Journal of Political Economy :— Thoroughly modern in doctrine ; wide in 
sympathy, clear, sprightly, and stimulating in style and manner of presentation. 

SEAGER'S ECONOMICS, BRIEFER COURSE 

By Henry R. Seager, Professor in Columbia University. 
467 pp. Large 12mo. 

Intended primarily for those who wish to give only that amount 
of attention to economic theory that is essential to the intelli- 
gent discussion of practical economic problems. 



HENRY HOLT AND COMPANY 

34 West 33d Street New York 



SEAGER'S INTRODUCTION TO ECONOMICS 

By Henry Rogers Seager, Professor in Columbia Univer- 
sity. Third Edition, Revised and Enlarged, xxii-f-604 pp. 
8vo. $2.25. 

This book presents in simple language the principles of Eco- 
nomics in vital relation to the facts and problems of contemporary 
business life. In the revised edition a chapter on Public Expendi- 
tures and Public Revenues and another on Taxation and Tax 
Reform in the United States have been added, and the chapter 
on Production and Distribution has been rewritten. 

F. H. Dixon, Professor in Dartmouth College :— Professor Seager has writ- 
ten what is probably the best text-book on the elements of economics that has yet 
appeared. . . . The feature of the book is the exhaustive treatment of the 
subject of distribution, to which eight chapters are devoted. The mental bal- 
ance of the writer is here most evident, for in spite of his Austrian training, he 
finds himself unable to follow the Austrian writers in their extreme positions. 
His acceptance of much of the thinking of the classical school in combination 
with the more conservative portions of modern theory, results in a presenta- 
tion which, far from being wavering and indefinite, as one might fear, is con- 
sistent, sane, and satisfying. 

The Annals of the American Academy of Political and Social Science ; 
—Professor Seager not only has given us an unusual text-book, but he has 
made as well an important, if not original, contribution to the literature of 
Economics. Indeed, it is not too much to say that he has brought the work 
of contemporary American theorists into its proper relation to the work of Pro- 
fessor Marshall, much as Professor Marshall himself had already adjusted the 
theories of the Austrian economists to those of the English classical school. 
. . . The chapters on practical problems are models of exposition and argu- 
mentation, the treatment of the trust and labor problems being particularly 
clear and comprehensive. . . . The book is, altogether, the best introduc- 
tion to the study of Economics that has yet been written. 

L. L. Price, in " The British Economic Journal":— The exposition of the 
principles of Economics presented in the earlier chapters of the book is, it 
appears to us, equally suited to students on this and to those on the other side 
of the Atlantic. . . . His treatise, indeed, seems to us to possess, as a 
whole, great advantages both for master and for pupil, and to deserve the wel- 
come which we believe it will receive on both sides of the Atlantic. 



HENRY HOLT AND COMPANY 

34 Wert 33d Street New Yoik 



STANDARD BOOKS IN ECONOMICS 

BUCHER'S INDUSTRIAL EVOLUTION 

Translated by Dr. S. M. Wickett, Lecturer in Toronto Univer- 
sity. 393 pp. 8vo. $2.50. 

The Outlook :-A work of prime importance to economic students. While 
German in the thoroughness of its scholarship, it is almost Gallic in its style, 
and is, for the most part, decidedly interesting reading. 

CLARK: THE LABOR MOVEMENT IN AUSTRALASIA 

By Victor S. Clark. 327 pp. 12mo. $1.50 net. 

Quarterly Journal of Economics :— A valuable work based upon investi- 
gation in the field. Treats judicially the various aspects of the Australian labor 
movement and estimates critically its significance. 

HOLLANDER AND BARNETT: STUDIES IN AMERICAN 
TRADE UNIONISM 

Edited by J. H. Hollander and G. E. Barnett, Professors 
in Johns Hopkins University. 380 pp. 8vo. $2.75 net. 

Twelve papers by graduate students and officers of Johns 
Hopkins University, the results of original investigations. 

McPHERSON: THE WORKING OF THE RAILROADS 

By Logan G. McPherson. 273 pp. 12mo. $1.50 net. 
Simply and lucidly tells what a railroad company is, what it 
does, and how it does it. 

MORE'S WAGE-EARNERS' BUDGETS 

A Study of Standards and Cost of Living in New York City. 
By Louise B. More. With a preface by Professor F. H. Gid- 
dings. 280 pp. 8vo. $2.50 net. 

A report of the first investigation carried on under the direc- 
tion of the Committee on Social Investigations at Greenwich 
House, a social settlement on the lower West Side of New York 
City, among workingmen's families of different races and occu- 
pations. 

ZARTMAN: THE INVESTMENTS OF LIFE INSURANCE 
COMPANIES 

By Lester W. Zartman, Instructor in Yale University. 
259 pp. 12mo. $1.25 net. 

It analyzes investments and the earning power of the various 
assets of life insurance companies. The interest rate is calculated 
by a new and exact method. The author also discusses the rela- 
tions of the investments to social welfare, and the proper control 
of the immense assets of the companies. 

HENRY HOLT AND COMPANY 

34 West 33d Street New York 






BY THE LATE FRANCIS A. WALKER 

DISCUSSIONS IN ECONOMICS AND STATISTICS 

Edited by Professor Davis R. Dewey. With portrait. 2 vols. 
8vo. 454 + 481 pp. $6.00 net. 

Important papers by a great authority on Finance, Taxation, 
Money, Bimetallism, Economic Theory, Statistics, National 
Growth, Social Economics, etc. 

The Dial :— . . . Economics in the hands of this master was no dismal 
science, because of his broad sympathies, his healthy, conservative optimism, 
his belief in the efficacy of effort ; and, in a more superficial sense, because of 
his saving sense of humor and his happy way of putting things .... he 
was the fortunate possessor of a very pleasing literary style .... clear and 
interesting to the general reader, as well as instructive to the careful student. 
There could have been no more fitting monument to his memory than these 
two volumes, together with the other volume of " Discussions in Education." 

MONEY 

550 pp. 12mo. $2.00. 

New York Tribune :— The essential facts of monetary experience in every 
country are presented with sufficient fullness and with judicious mingling of 
authority on disputed points. The work will win a very honorable place for 
its author among the few who are advancing toward the mastery of a most dif- 
ficult science. 

MONEY IN ITS RELATIONS TO TRADE AND INDUSTRY 

339 pp. 12mo. $1.25. 

Boston Courier :— The present volume is of a more popular nature than his 
previous one on Money, but certainly is not on that account less important. 
Viewed in its immediate relation to the money questions of the day which are 
entering more and more into politics and becoming therefore active levers for 
the advancement of society .... adapted to easy comprehension by a 
mixed audience, it is a publication of greater moment than its more elaborate 
and critical predecessor. 

INTERNATIONAL BIMETALLISM 

297 pp. 12mo. $1.25. 

The Outlook :— The best book yet published in the English language for the 
exposition of the distinctively economic questions at issue between bimetallists 
and monometallists. 

WAGES 

A Treatise on Wages and the Wages Class. 428 pp. 12mo. 
$2.00. 

Nation:— The most complete and exhaustiv. ^eatise on the wages question 
with which we are acquainted. . . . The general correctness of its line of 
argument is in striking contrast to much that has been written on the subject. 

POLITICAL ECONOMY 

Advanced Course. 537 pp. 8vo. $2.00 net. 
Briefer Course. 415 pp. 12mo. $1.20 net. 
Elementary Course. 323 pp. 12mo. $1.00 net. 

HENRY HOLT AND COMPANY 

34 West 33d Street New York 






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